Tuesday, October 7, 2008

Higher Volatility – Sword of Damocles! IFCN Wk 44 – Tue- Equity: $1,337.95

Sword of Damocles

The recent high volatility has made “normal” a thing that changes hourly. In general, volatility is a good thing for traders, like me, who use volatility-breakout methods. But, you need to be aware of the flip side of the volatility equation too.

We saw the real cost of volatility in our ONS trades last Friday.

OneNightStand operates on a principle that was originally discovered and exploited without using stops. With some money management, using a reasonable stoploss on each trade; you can eliminate serious negative outliers. And eliminate great profits, as we saw with last week's ONS sells of Eur/Usd and Gbp/Jpy. My 100 pt. stops got hit because of substantial snapbacks intraday. If stops were not used, as per the original concept--- exiting Monday morning would have returned profits of 129 pips and 322 pips respectively. A much better result for those specific trades.

I have proven to my own satisfaction that using money management stops does improve overall trade efficiency, as most of the big profit outliers don't back up once entered. I will continue their use. The psychic cost is when you see the principle work with you safely out of the market by your own hand.

FirstStrike trades this week were taken with double the usual size of buy/sell points and stop points once entered. For example, this week's buy orders for Eur/Usd:

(eur/usd: 1.3618 OPEN) BUY 1.3718, stop 1.3598. If the regular 50 pip buy/sell distance and 60 pip stop were used the order would be: BUY 1.3668, stop 1.3608.

The reason is, again; the recent extreme volatility. Volatility in a given market can make you a lot of money-- if you are still in when it finally goes your trade's direction. When latent volatility is so great that your buy/sell distances can be elected due to increased “noise” levels, you stop having as great of an edge relative to the risk you are taking by entering trades.

Currently the 10 day average daily range of the Eur/Usd is 254 pips. For the previous year prior to the August meltdown, the average daily range was around 124 pips. For the Gbp/Usd pair, the numbers are 287 and 162 respectively.

That is why it is better if you use breakout points that are adaptive to current volatility instead of fixed breakout points. For volatility breakout methods, fixed points do work adequately over time-- but the variance in potential returns increases too. Hence the reason for this week's increase in entry numbers from the weekly open.

In my personal trading I have always used volatility-adjusted entry points. One of the main reasons I started trading the IFCN account with fixed points was because the simplicity of the concept and I thought newer traders might find the process less arduous and facilitate their taking of the trades. I've reiterated numerous times that the biggest hurdle traders have to overcome is the consistency of taking trades with the same kind of edge over and over again..., that consistency is more important than how big the edge is. “Being in” is how you put yourself in the way of profits.

Months ago I mentioned that I intend to eventually convert the FirstStrike trades to buy/sell points based on current volatility. It wasn't necessary before the recent major increase in forex volatility. Since it is here now with no indication of letup, it is a good time to incorporate it into the Challenge account. In the next few days I will discuss the volatility parameters I will incorporate into FirstStrike and perhaps even into OneNightStand trades.

I have little doubt that those who wish to continue using fixed buy/sell levels will do well over time, but the increased risk of premature stop-outs will have be borne.

Concerning the FirstStrike trades this week, almost all of the “normal” 60 pip stops would have been hit before there was any opportunity to make substantial profits. Since the trades had larger stop points, it was necessary to reduce position size accordingly, something that is easy to do with Oanda, since you can trade the smallest possible position size of any firm I'm aware of.

After getting filled and the market plummeting, I moved to a 50% trailing stop on the Gbp/Jpy profits as they were very large very quickly. We are out happily with 297 pips profit.

Here are the IFCN results of this week's FirstStrike trades:
  • Eur/Usd: Short @ 1.3518, stopped out at 1.3638 for a 120 pip loss.
  • Gbp/Jpy: Short @ 180.00, exited at 177.03 for 297 pip profit. (50% profit stop)
  • Gbp/Usd: Short @ 1.7488, stopped out at 1.7608 for a 120 pip loss.
  • Usd/Chf: Long @ 1.1460, stop 1.1340. Trade in progress.
  • Usd/Jpy: Short @ 102.18, stop 103.38. Trade in progress.
FirstStrike trades not stopped out before Friday-- exit on Friday just before 15:00 CST.

More Silver dealing:

At 2:50 PM CST Monday I bought 100 units more of XAG @ 11.00 with a stop at 10.75 (Total risk $25.00) That brings the IFCN account's silver position to 200 oz. (average: 10.87) with a position protective stop at 10.75. The latest was a very low risk entry and whether this additional trade succeeds or not, will be my last attempt at purchasing until higher prices become the order of the day. Likelihood of success will increase as the prices get higher, unfortunately-- so will the risk.

Current trade equity is: $1,223.95.
Silver position equity: $114.00. (Current silver price: $11.44)
TOTAL Equity: $1,337.95

Joel Rensink

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Anonymous said...

When you compute Average Daily Range do you count the Sunday plot as a day or is it ignored? Thanks so much for introducing this.

The Archiphage said...

Wow! A quick check of a spot market for actual physical silver reveals that they are *BUYING* 90% junk silver quarters at a price of $14.00 per ounce! They're asking almost $15. Seems like a rare opportunity here. I would think some folks would be trying to take physical delivery from the futures exchanges... which I'm sure the exchanges are trying every nefarious tactic they can think of to prevent. Interesting times...

Joel said...

No Sunday price action is included.
There is very little serious money exchanging hands on Sunday.