One, how are these states identified? Do we attempt to determine the emotions of all market participants in part or as a whole, and by what mechanism? They're identified by price action, usually through charts, though some people use the tape instead. Two, whence identified what decisions can be made? For example, if we have identified the market as comprising generally fearful individuals should we be short-selling, or buying? Depends on the chart. If price is showing that bulls are in control, you buy. If it's showing that bears are in control, you short. This approach is valid but difficult to apply, thusly it may be advantageous take a different, more efficient approach. Yes, it is difficult to apply. If it weren't, everybody would be doing it. Instead, most traders prefer the "enter when the blue line crosses the red line" approach. The fact that so few have any success with that approach, however, does not deter them from following it. Therefore, after several years in the markets, it is entirely possible that they will have no better or deeper understanding of it than they did when they began. --Db
Db, Your point is well taken. Eventually I must always return to the charts and more simply, price. Here is an example of my current dilemma: Given two "systems" (1) MA crossovers or (2) MACD crossovers how is a decision made as to which is superior at any given point in time? More generally, given two types of systems (1) Trend-following or (2) Channel trading, which does one select? Right now I am not looking for a direct answer to either of these questions, but the method by which answers may be found. Your response thus far has seemed to be, and correct me if I am wrong, that the method is to trade for many years. By trial and error one will come to know what systems will work, and when, without knowing how they know. Some may call this intuition or a trader's feel, and I have do not take issue with this approach. I do wonder though whether or not there is another path to success. -LD
some very nimble minds/ and good traders have already researched this topic extensively. i suggest to you, russell fuller's paper on sources of alpha as a good place to start: http://www.fullerthaler.com/ResearchLibrary/bfsoa.pdf surfer
I have downloaded and begun reading your suggestion. This one will take some time to digest, thankyou.
I did not say that one must "trade for many years" before turning a consistent profit. What I said was that many (or most) of those who took a mechanical approach end up with no more understanding of price action than when they started. Indicators are based on price action. Therefore, if you choose an indicator-based system, you will be late. If that doesn't bother you, then you have a number of systems to choose from. These can be roughly divided into trend-following systems and oscillating systems. Both MA crossovers and MACD crossovers are trend-following systems. As for trend-following or channel trading, these are also the same, unless the channel is lateral. If the channel is lateral, you'd choose that in a trendless market. Otherwise, you'd choose a trend-following system. In order to choose between one and the other, you'd have to know how to determine whether or not you were trending (see "Determining Trend" under "Trading"). None of which has to do with your original question, to what can we attribute market movements. If you're less interested in why and more interested in what you should do about it, then you're in the same quandary as most other people on this site. --Db
Not really. Backtesting provides only a clue, though sometimes not even that. The system must still prove itself in actual or simulated trading. I see all sorts of "systems" with "backtested results" presented here, but very little information about realtime results. Based on what is posted, the results rarely jibe with what was expected. Whether this is due to problems with the system or problems with the trader is another subject. --Db