Futures Strategy Development

Until recently, my involvement in the futures market did not utilize VWAP. While I understand what it represents, I never quite grasped the importance of it.

I first learned about VWAP in a Chat With Traders podcast interview. I don't recall the exact episode, but the gist of it was along the lines of entering trades on price crossover. This seemed easier said than done. When I looked at the ES charts, there were way too many false signals for a crossover strategy to be useful.

After combing through quite a few shitty videos on VWAP strategies, I finally found one that I believed and still believe is the correct approach to this concept. Rather than using the demonstration as is, I recently began formulating my own approach to VWAP. This is still in the works as further backtesting is required to optimize my entries.

With my approach, there are two ways for VWAP to be used:
  1. Reversion to VWAP

  2. VWAP Fakeout
This probably isn't a new concept, but VWAP reversion is this idea that price will revert back to the mean. We can easily observe this happening multiple times on an intraday chart. The more difficult task is optimizing the entry in order to achieve a high enough R-multiple so that I can afford to take on a smaller losses.

The concept of a VWAP fakeout is simply when a price crossover fails to hold. If price cross above the VWAP and fails to push higher, those that took a long position will be forced to exit. This means that they will be adding to the selling volume. Price will then cross below the VWAP and momentum should pickup.

I definitely don't think I'm the first to come up with these two setups. However, I haven't seen anything of the sort on any of those day trading "tutorials". When these strategies work, I should see very clean signals.

MESZ0 3,000 Volume-Bars

The section highlighted as "VWAP Reversion" should be pretty self-explanatory as to why I don't like the price-VWAP crossover strategy. If there's a clean crossover, I wouldn't even have a chance to enter on a pullback. If I don't wait for a pullback, I could be entering at a sub-optimal price. Furthermore, I'd be buying into a rally. In other words, I'm buying when other people are looking to get out.

Putting these two strategies into practice is a lot harder than it looks. I attempted to test them out by running a replay. Here's how it turned out.

MESZ0 3,000 Volume-Bars Replay

Here's a rundown in a numbered list:
  1. Correct entry. RSI isn't climbing higher. Price tested a previous high so this is a fresh resistance. One reason to avoid this trade is price increased sharply rather than at a slow pace.

  2. Price failed to climb higher. RSI painting lower. Correct play to scratch this trade.

  3. Early. Sell trade should've been placed at the previous high, which would be the close of this trade.

  4. This can be ignored. This is due to a stop loss that wasn't closed in time and got triggered.

  5. Too early for a VWAP fakeout play.

  6. Correct play off of the bounce at the relative low.

  7. Both trades here are too early.

  8. Also a tad early. Should've been at the previous relative low. The trade after that was gut. Did not follow either strategy.

  9. Early. Should've been entered slightly lower, even if it resulted in a loss.

  10. Also early.
If I got rid of the early trades, only 1, 2, 6, 8, and 10 would've been triggered. In this case, I would've ended up with five small losers. Each trade had a stop of three points. This would've led to a total loss of 15 points. On the Micro E-mini S&P 500, this would've netted a total loss of $75 assuming that I traded only one contract at a time.

However, the close at #3 would've been the big play. The sell entry would've been at 3698. As I trailed the selloff, this trade would've been closed 3682. This 16-point move would've netted a profit of $80. Because this sell trade would've been trailed, the only other trade attempt after that should've been a bit lower than #10. This matches the criteria for hitting a a relative previous low while the RSI is increasing.

I understand that I risk a lot of fitting with historical data here. This is why I already stated that further testing is required.

Expectancy Calculation:
  • Win Rate: 25%
  • Risk: 3 Points
  • Payoff: 16 Points
Expectancy = ( 0.25 * 16 ) - ( 0.75 * 3 ) = 1.75

My next step would be to continue testing as this needs to be further optimized.