The first thing to do when trading is to know what you have to expect from trading. Each house has a different set of rules. Some of these rules are written by the house and some are simply part of the game. The important thing: get to know them. And you should get to know them very well before you actually trade.
Many newcomers to algotrading don't actually know many of the rules. A successful backtesting can prove useless in real life conditions, because one or more of the house rules were actually ignored during the backtesting phase.
Some of the rules:
- Trading calendar
- Trading times
- Exchange based vs Shop based assets
- Available Order Execution types
- Potential discounts
- Multiplier and Margin levels and rules for futures
- Contract Expiration
- Splits and Dividends
- Cash Inflow and Credit for short selling
Some examples of what happen when the rules are ignored. Based on real stories.
Margin: Intraday vs Overnight¶
Trader1 decides to enter a short position in a well known and liquid future nominated in Euros.
And Trump is elected as President Of The United States (aka POTUS). For whatever reason, the prediction that the markets will go downwards until the devil's lair is found, turns out to be wrong and the markets decide to skyrocket. No problem. The needed margin to hold the position is enough for an eternity and the markets tend to make a retrace.
Some days later the markets have not retraced, but Trader1 is confident and even if in pain, given the accumulated losses, can be held because the account holds more than enough cash to keep the position open.
Some days later at 15:45 EST, part of the position is automatically liquidated by the broker. Trader1 receives due notification of the fact and even in a state of confusion, given the sudden liquidation, Trader1 is capable of realizing that the Margin is not as low as initially thought.
In conversation with Trader2 accusations against the broker are made: "the rules have been changed by the broker with no announcement", "the margin has been changed to be four (4) times the original one", "my position was perfectly sized", "the broker has jeopardized my chances of recovering all of my losses"
Trader2 realizes that Trader1 was unaware that brokers have two different types of margins for futures:
Intraday: which applies during the session (until 15 minutes remain before the closing bell. This is usually scaled to be around 15%-25% of the overnight margin)
Overnight: which applies when the market is closed and during non-Regular Trading Hours
15 minutes before the closing bell, brokers do automatically evaluate if an open position will meet the Overnight Margin requirements. If the requirements are not met, brokers liquidate as much of the position as needed, until the Overnight Margin can be met.
And this is what actually happened: Trader1 in this example had not read the rules about how margin works. And even if the application in use for trading actually displayed the different margin requirements, Trader1 did not care. That was not relevant information, until it was.
Why does my data not match what I see from my broker?
Why is my order not executed if my price level has been and even crossed?
These are some of the usual questions from some of the newcomers who chose to operated with a Forex pair. The answers are very easy:
- Because the Forex Broker controls the market.
A Forex Broker, unlike a regular broker, does not operate in a Exchange where
stocks are listed and participants have access to see the last matched prices ,
for example, for
GOOGL and the order book. No. A Forex Broker is a closed
environment in which the prices, the spreads and execution is controlled by the
Broker. Which is one of the reasons, why many people tend name these brokers as
"Bucket Shops". Obviously, price evolution trails the actual exchange value of
a pair and the price of other Forex shops
Not so incredibly, newcomers do not research about this and are actually
attracted by things like
leverage, which allows to exercise a larger buying
potential than the actual account value would allow. This can lead to larger
profits. Most people forget, because one cannot for sure lose, that leverage
will also produce larger losses.
Let's see in the following sections, how to at least have a small say in how the House Rules actually apply, by controlling two key aspects:
- Choosing the asset
- Choosing the house