“Arbitrating Forex – Signals” (J) seen as profitability factor
What is (J)? One way to look at this is as an entry signal for
“Arbitrating Forex – Signals”.
In forex trading, J is the moment, in which two brokers have a difference in their quote prices, and the trader decides that the risk is on his side. Thus one initiates a trade. Graphically one can imagine many lines and each one represents a specific broker’s quote. Those that are of interest are the lines which are most separated in this moment. And if the distance between them is equal or higher than (J) – condition is met.
To represent it in a matrix format imagine two rows filled with the quotes of two different brokers. The system is interested in two points in the development of the difference between the rows.
- When both are equal. If the system trades this is a Forex signal for exit, but if it is not. Then the systems starts observing when the difference will reach (J) and enters
- Difference is equal to (J). This is the moment to enter. Long on the lower quote and short on the highest quote. This is the discrepancy one repairs and gets profited.
Thus the only thing that the “Arbitrating Forex – Signals” cares is observing if the price difference between two brokers reaches the signal. It does not matter if the difference is positive or negative. The sign matter though for which will be the broker sold and which will be bought.
How to Calculate J
First we have to make it clear what is in (J) that we want. It includes the price to initiate a trade and the profit. So once an arbiter sees the opportunity, he knows that there is no need to wait more. If one waits the difference to become larger he plays against the odds. Therefore from the decision of the size of the difference directly derives the profitability of the system. If we want it to be six, we will loose every opportunity, where the difference was five. If we enter on five we will lose every opportunity of six. In order to research the matter one has to turn to mathematics. I preferably use quantitive analysis, so let’s see how to use it.
In order to simplify it for comprehension purposes, I will discus the relationship between only two broker’s quotes. Remember, those are quotes for the same security and once entered the trader positions are actually hedged in two different brokers. If we plot the difference on a table one will observe that it is changing in time; Been positive, zero, negative, and positive again. There is a cycle of both prices deviating from zero and back again.
If the goal is to calculate what will be the most profitable (J) in “Arbitrating Forex – Signals” then one have to find what is the probability of each occurrence. He has to make a sample with the difference and to number how many times the cycle happened. And what was the maximal J reached each time. From here for each J probabilities can be determined.
Having this information (the probabilities for each J) and the size of each J, we can find what will be the most profitable choice for us.
Using the concept of relative value, which says that both have to be multiplied? The results will give us the value of information for each J. The most profitable set to J will be the option with the higher value of information.
Now we know how to find J.