Stock Exchange: How Do You Filter Out Noisy Trade Signals?

 | Apr 20, 2018 02:20AM ET

The Stock Exchange is all about trading. Each week we do the following:

  • Discuss an important issue for traders;
  • highlight several technical trading methods, including current ideas;
  • feature advice from top traders and writers; and,
  • provide a few (minority) reactions from fundamental analysts.

We also have some fun. We welcome comments, links, and ideas to help us improve this resource for traders. If you have some ideas, please join in!

h3 Review:/h3

Our previous Stock Exchange asked the question: How Do You Allocate Your Trade Risk Budget? We noted that trading results depend, in part, on other market participant actions that are out of your control. And therefore, budgeting your risk exposures can be critically important. For example, asset class diversification, process diversification, timing luck, “internal dialogue,” stop orders, and position sizing are just some risk budgeting concepts to consider. A glance at your news feed will show that the key points remain relevant.

h3 This Week: How Do You Filter Out Noisy Trade Signals?/h3

With an ever growing amount of market data and news, it’s easy for traders to feel overwhelmed and distracted. However, as Dr. Brett Steenbarger shares in yet another exceptional article , it’s not information overload, it’s filter failure.

We couldn’t agree more, and this is exactly why it’s so important to have a disciplined repeatable trading process. This can quickly help you drown out the noise and focus on what matters. As we’ll see later in this article, each of our trading models adheres to its own strict and objective trading strategy. And filtering out noise has been a key to our model building process. For example, as we’ve written in this article , disciplined entry and exit points are one example of what can separate successful traders from the rest of the pack. And without discipline, you could end up chasing (or running from) every noisy news story or unrelated data point you come across.

In relation to the ever increasing complexity and information available to traders, Michael Harris notes the growth of quant within the world of technical analysis in this article . Specifically, he explains how the Chartered Market Technician program is increasingly shifting its focus to quant, a move that may not be palatable for all technicians. He shares an interesting quote attributed to John Bollinger:

Quants are not gonna make it. They carry too much baggage. Technicians are going to be the ones to make the next big opportunities

Quantitative strategies can be extremely complex, a characteristic that puts them out of reach for many traders, and makes them error-prone for others.

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Also interesting, this article by Mark Rzepczynski notes that:

There has been an explosion of alternative measures and methods to access market betas and risk premiums, yet it is not always easy to explain what this added complexity should give investors.

And while the added complexity creates challenges, the article notes there are some benefits, for example:

The decomposition of risk into different factors or risk premium has allowed for more reordering of the risk within a portfolio. The reordering of risk premium should result in smoother return to risk trade-offs.

In our view, even matching the market is good if you can smooth out returns, as Mark describes. Beating the market is even better.

And for some lighthearted humor on the concept of information overload, here is a post from Ben Carlson on how to become a billionaire: