A Few Thoughts On Regimes
What started out looking like a paved road to profits can end up feeling more like a swim against the current when building your trading strategy. What was once profitable starts to degrade. This can be for a whole host of reasons. One of the reasons may just be that the market regime is changing or has changed.
Regimes are high level in my strategy architecture. I like to start with defining regimes or cycles. Since I place a lot of emphasis on range or ATR, my regimes are by definition range cycles. I work with two distinct regimes, expansion and contraction. Simply stated range is either expanding /getting wider or contracting /becoming narrower. No rocket science here, just a widely known repeating cycle. Many choose to use volatility measures in much the same way. I settled on the use of ATR over volatility due to the use of volatility products in hedging. Keeps things a bit simpler for me since I am no rocket scientist. So for me it is all about the expansion and contraction of range.
The above illustration gives a rough idea of why regimes matter to me and should be a part of your work also. Different conditions lead to different outcomes. Tidal cycles have exact timetables so you can plan ahead and count on the cycle occurring at specific times. Market cycles or regimes do not have any such timetable, they are going to occur and repeat but the timetable varies and is unknown. This doesn’t preclude us from planning ahead and accounting for them in our strategies though. The regime will change. This change will be the what I call the “turn”. The turn is important and hard. The turn is struggle! The turn is where we want to fiddle. The turn is the place we want to make smooth. The turn is where curve fitting and rabbit holes lay waste to many strategies. High going to low, fast becoming slow and surfing a wave to treading water all changes of regime. In my trading it’s wide range becoming narrow range and back again. The types of trades I want to focus on will hopefully be in tune with the regime we are in.
I spent lots of time thinking about my two regimes and how price action differs in each. I let myself marinate in these thoughts. Jumping to rash quick conclusions when thinking about regimes isn’t what I would recommend. Marinate and soak in your thoughts. Think deep about how price action differs in the regimes you decide to focus on. Ponder what the turns will be like. Plan for the turns, have rules to keep you afloat while the tide changes. Then start to look at the patterns and set ups that you trade within your regimes in a way you maybe haven't done yet. Are there spots where a slight adjustment in strategy can be made to better exploit a certain regime. What effect does a certain regime have on trade probabilities? Are certain patterns a better fit for one regime vs. another regime? Should a set-up even be executed in a certain regime? Questions like these should be on your mind. In my strategy I have a bias in one of the regimes for trade direction. One of my set ups only take place in the turns and one regime. These are the types of things that you may encounter when you do regime work on your strategy.
