Let's begin learning the system

Between the morphine and the pain after my rehab sessions at the hospital I have a couple of hour long windows where my brain actually works.

My plan is to teach you as much as I can about designing trading systems and MY trading system each day, preparing for the live event on 16th June.

Anyway, the more you guys know before then the more advanced I can teach on the day.

Advanced is good.

Let’s talk about designing trading systems from first principles, and that way I can show you gradually the decisions which informed my own choices.

Hopefully when you learn my systems that you’ll have a deep and not just superficial understanding (but that might be just the morphine talking)

Solving the biggest problems in trading

So big picture… there's two really annoying problems with trading.

1) What do I trade? Choices, choices…

2) Do I bet that number go up or number go down?

(because I’m often wrong, you see)

Today I’m going to show you an elegant method of solving that problem.

It’s not the only way, and it may not even be the best way, but as you’ll see… that doesn’t matter much.

You see, edges in finance are very competitive, and thus mostly weak.

You NEVER get to the point where it’s X and Y happened therefore it’s certain to go up to Z.

All you are looking to do is very slightly tilt the odds in your favor.

Why only slightly?

Because slightly is ALL THERE IS.

Where retail traders fuck up is by trying to predict the outcome… and historically my crystal ball is broken.

I didn’t pick the 69K top in BTC… so why in fuck would I be qualified to pick the bottom? (other than Dunning Kruger and a whole lot of sunk cost biases?)

A better way is by taking a weak but statistically significant edge, and stacking several of them together to form a set of rules that can be tested.

You then test those rules… like a Scientist not an Astrologer.

Science v Astrology

If you are doing science you are trying to disprove your hypothesis.

If you are doing astrology you are trying to collect evidence to make your bullshit sound legit.

Do science, obviously. 

To state the obvious it serves nobody to spend a year designing a trading system that DOESN’T FUCKING WORK when you start using it for real.

So let’s talk about these edges….

Time to burst your bubble.

Probably 85% of finance is doing variations on the same thing.

Line up all the hedge funds and banks in the world and the vast majority of them are doing….

• Trend continuation

• Momentum (time series and cross sectional)

• Stat-arb

• Mean reversion

• Volatility models

• Options stuff which is too complicated to bother with

• Seasonality

• Carry

Add in a few weak price action edges, multiple timeframes… and you don’t (and shouldn’t) need to dig a lot deeper than that.

Here’s the thing.

Most beginners are tempted to pile a whole bunch of conditions into their trading system rules.

They torture the data until they get an acceptable backtest, but when they apply real money to the process they lose.

This sucks, and here’s why.

You see there is a certain amount of optimization that’s good, but that amount is very small. Once you start adding things like 

Buy the SPY on Tuesdays when RSI is > 70 and SMA > 200 and it’s not Options expiration week… you’ve already made your system too complicated to actually work in the real world.

So what you want to do is take a simple edge.

Then take a very logical, not optimized dumb-shit version of that edge and build a rule around it.

Here’s a practical example that we are gonna use.

Positive Carry is the easiest, dumbest edge in finance, which is because it actually works and trillions of dollars uses it every day.

Positive carry is the difference between the spot price and the future price

In crypto perpetual futures someone has to be long for every short.

So when nobody wants to be short (which happens) there needs to be an incentive.

That incentive is an interest rate, the FUNDING RATE, which is paid by longs TO SHORTS to go long, or vice versa.

Don’t worry about understanding this yet, you’ll get it soon.

Actually you don’t need to understand it.

Let’s go to ftx.com/funding

Those numbers in the purple box. Those are the interest rates (per 8 hour period) which you either have to pay to get long (if positive), or get paid to get long (if negative).

Think of them as a sweetener for you making the trade.

You get long, and you get paid a bonus over and above your trade just for being willing to take a risk nobody else wants.

That’s it. Pretty much.

You wanna use my fancy spreadsheet by making a copy of it (file menu > make a copy) 

That just sorts all the funding rate data and tells you which coins have the strongest bullish carry edge, and the strongest bearish carry edge.

Which way do you bet? 

We assume (and I think it’s a fair assumption and theres a shit-ton of data supporting it) that a bigger number is a stronger edge.

So in one stroke, we’ve solved our two big problems.

1) Which coin to bet on

2) Which direction to bet

You see how we didn’t try and predict the future, we are just looking for a tilted roulette wheel.

Ok my brain is running out of steam.

More to come tomorrow.

Hope that helps

Sign up for the webinar here June 16th, promise its legit

Scott