Sound Systems

TRADING SYSTEMS

For Trading, Not Music

Sound Systems
by Robert Pelletier and Sabrina Carle

Too often, trading systems are based on coincidence rather than on sound scientific or mathematical principles. Here's how you can create a trading system based on logic.

Just before the 2004 US Presidential election, people across the United States were talking about the predictor that had called the Presidential winner for an amazing 16 campaigns. From 1936 through 2000, the success or failure of the Washington Redskins football team on the Sunday before Tuesday's Presidential election had successfully predicted the election's outcome. If the Redskins won, the incumbent's party retained the White House. If the Redskins lost, the incumbent's party lost. Every single time. When the Redskins lost to the Green Bay Packers on October 31, 2004, George W. Bush's reelection bid seemed doomed -- if you believed the hype, that is.
Although we seriously doubt that anybody bet the farm on this predictor, it was an interesting diversion that had pundits from both parties wondering if the streak would extend to 68 years. By now, everyone knows that the predictor was wrong this time. Even as you read this, President Bush is settling in for four more years in the White House, and for the first time in the history of the Washington Redskins, the team failed to predict the Presidential winner. Astonishing!
How could it be wrong? A better question might be, how could it ever have been right? This predictor went wrong the same way trading systems that are based on coincidences or curve-fitting rather than sound scientific, mathematical, or economic principles go wrong. They are all non-sequiturs, relying on a logical fallacy wherein the conclusion does not follow the premise.
...Continued in the March issue of Technical Analysis of STOCKS & COMMODITIES

Excerpted from an article originally published in the March 2005 issue of Technical Analysis of STOCKS & COMMODITIES magazine. All rights reserved. © Copyright 2005, Technical Analysis, Inc.

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