Lessons From The Multi-Pivots For June 20, 2011

[adam ali]

Thanks for the heads up on this. One final question and it may be in one of the (few) books/articles on pivots out there: how did this methodology come to be in terms of its statistical/theoretical foundation? I'm wondering how someone one day decided to take the high, low and close, divide by three, etc. and said "That works!"

[Billy]

Thanks for the heads up on this. One final question and it may be in one of the (few) books/articles on pivots out there: how did this methodology come to be in terms of its statistical/theoretical foundation? I'm wondering how someone one day decided to take the high, low and close, divide by three, etc. and said "That works!"

If anyone can find a reliable historical source for this I would be most grateful!
My hypothesis is that many decades ago, before the age of computers and light-speed trading, when most floor traders were lowly-educated people who never graduated in anything, they needed easy-to-compute formulas for defining intermediate levels for sizing in and out of their positions.
One day a statistician made a study and probably discovered the bell curve standard deviation structure of the pivot formulas. It started to work for one, then a few, then several, then many floor traders as the word spread around, further reinforcing the self-prophecy nature of the pivots.
I remember my first days as a market maker trainee, expecting complicated technical analysis and charting trading lessons. I never saw any chart or any technical analysis. Only spreadsheets with the house position's average price compared to the various floor levels. And it worked!
Billy

[ernsttanaka]

If anyone can find a reliable historical source for this I would be most grateful!
My hypothesis is that many decades ago, before the age of computers and light-speed trading, when most floor traders were lowly-educated people who never graduated in anything, they needed easy-to-compute formulas for defining intermediate levels for sizing in and out of their positions.
One day a statistician made a study and probably discovered the bell curve standard deviation structure of the pivot formulas. It started to work for one, then a few, then several, then many floor traders as the word spread around, further reinforcing the self-prophecy nature of the pivots.
I remember my first days as a market maker trainee, expecting complicated technical analysis and charting trading lessons. I never saw any chart or any technical analysis. Only spreadsheets with the house position's average price compared to the various floor levels. And it worked!
Billy

And is the same for most of the great mm's on the cboe. I met a few over the last years, most can't read a chart even if their lives depend on it.

[EB]

I did note that Person did not talk of confluence. However, I was unaware until you wrote the below just how much of your system was original to you. Did the senior MM's follow quarterly, semester and annual pivots? Or, is that yours as well?

[Billy]

I did note that Person did not talk of confluence. However, I was unaware until you wrote the below just how much of your system was original to you. Did the senior MM's follow quarterly, semester and annual pivots? Or, is that yours as well?

Yes Bob, that's how it worked back then. The bosses are focusing on quarterly, semester and yearly pivot timeframes, distributing and spreading over time the buying and selling of the houses's long term positions down the hierarchy.
The junior guy doesn't care about any timeframe above daily, he simply receives his volume to buy or sell for the house each day and he tries to optimize the VWAP according to the liquidiy and daily pivots. New institutional intraday orders keep coming in, but they normally don't change much the house's plan of action for its own account.
I guess today this whole process is fully automated in algorithms including all timeframes levels for optimization.
The only thing original from me was simply to follow the logic of weights and cluster strengths within ATR ranges, while everybody else is focusing on individual timeframes. I am trying to trade the collectively most probable setups, not the individual ones.
Billy

[adam ali]

Billy,

Is it the case - now that market-making has now effectively been taking off the "floor" and dispersed widely - it's difficult to truly know how MM is done today? I realize that if your pivot system works, it effectively means you DO know how MMs work, but it's interesting (at least to me) that's it's a guess and not a for sure. Or is something else coming into play that makes confirming how MM works difficult?

[Billy]

Billy,

Is it the case - now that market-making has now effectively been taking off the "floor" and dispersed widely - it's difficult to truly know how MM is done today? I realize that if your pivot system works, it effectively means you DO know how MMs work, but it's interesting (at least to me) that's it's a guess and not a for sure. Or is something else coming into play that makes confirming how MM works difficult?

Adam,

MM is done today with HFT and algorithms programs. It is turning more and more probabilistic and quantitative in nature. The very stable probabilistic results of the pivots methodology comfort me in my "best guess" that they are still at the chore of the market makers' programs. The best proof or confirmation of the guess is the backtesting done by Pascal which gave a zero % long term return from the pivot methodology when used independently of any market direction bias. In other words, when blindly selling and buying (reversing) at each 3:1 reward-risk long or short setups, on average in the long term, you will not lose nor gain anything (except costs and commissions).
Once you introduce a performing probabilistic market direction model like the 20 DMF, the same 3:1 reward-risk setups entries at the model signals suddenly provide exceptional returns and reduces the risk once you start holding the position for the number of days until the next signal change or stop hit.
Billy

Billy