Many commodity traders like to trade commodities instead of stocks. One reason why this is the case is because commodities tend to trend better than stocks. I tested this theory a few times a few years back. I actually tested about 30 different commodities and 300 different stocks and the stocks had much less choppy range bound trading action than the commodities did. I remember that the trends in commodities lasted much longer as well, including gold and financials that could potentially last several years.
How to Define Trending Market
Many traders ask me to help them define a trending commodity future market. There’s a few ways to define a trending market but the best way to do so is to be consistent. If you are going to use moving average indicators than stick to them and if you are going to use 40 day high’s then stick with them. What ever you do be consistent in picking a trending market.
One indicator that I like to use to define trends is the 30 day ADX filter. The average directional filter doesn’t tell you which direction the market is heading but it will tell you when the slope of the trend is fairly strong. If the trend is below 30 I would recommend you stay away from that market but anything over 30 suggests that a market is entering very strong trend conditions.
When applying trend indicators to your favorite commodities futures contracts contracts, I highly recommend you use daily data that’s back adjusted. Many trading systems can be tested with historic data but as long as the data is in fact backwards adjusted to compensate for the difference in the spread prices for different commodity months. Many traders like to use forward adjusted data but I recommend backwards adjusted data because it happens to be a bit more accurate.
There are many websites that help traders learn to trade but one broker called Trade Station has a trading software that is considered the state of the art program for back testing trading systems and strategies. The only problem is the program is not that easy to use for advanced algorithms, its called easy language but it’s really not all that easy.
If you have programming experience, the program shouldn’t be very hard to learn but if you are a beginner, I recommend you hire someone to program your ideas and be done with it.
Next month I will discuss how to correctly manage risk and pick different money management strategies for your long term trading. Another aspect we need to cover is the ATR filter but we will do that next month as well.
Hope you do well!