Author Bio

In a blog post from Sunday, Adam Kritzer suggests that volatility in the Forex market continues to run high. This is based on a look back over the last five years (though the chart he shows only goes back four). I decided to take a longer look and instead of using options implied volatility, I went with actual range-based volatility.

The chart below shows the USD Index (cash version) going back to 2001. The sub-plot is of the Normalized Average True Range (N-ATR) indicator. Basically, the N-ATR takes the 14-period average High-Low range and divides it by the 14-period average closing price to get the range expressed as a % of the average. That allows for easier comparison across markets and timeframes.

As we can see on the chart, weekly ranges averaged between about 1.5% and 2.5% from 2001 to 2006. It dropped sharply into mid-2007, then took off to above 3% during the height of the financial crisis. The green line on the chart is the 5-year moving average of the N-ATR, which currently comes in below 2%. Since the current N-ATR is above that, we have agreement with Adam’s comments about volatility. Interestingly, though, N-ATR has recently dipped back below the mid-point (50% retracement level) of the wide range of N-ATR valued between the 2007 low and the 2009 high.

It must be noted, though, that volatility varies among the pairs. The USD Index is very heavily weighted toward the EUR (57.6%). That means the volatility for the index is generally going to be very close to that of EUR/USD. As we can see from the weekly USD/JPY chart below, however, in some places the volatility is below average.

Notice how N-ATR for USD/JPY has fallen below the 5 year moving average. Interestingly, though, in this case N-ATR never got as low (about 1.5% vs. about 1.0% for the index) and got much higher at the peak. It currently is about the same level.

It’s a similar case for GBP/USD.

Again, here was saw a higher low and a higher high, and now we’ve see N-ATR move below the 5-year average and into the lower 30% or so of the high-low range. We’re also looking at N-ATR getting close to where it is for the USD Index.

The takeaways from all this are:

1. Volatility in the Forex market can vary significantly between pairs
2. Volatility is falling in some pairs, but not in others. That has implications for the way different pairs trading heading into the new year.
3. N-ATR can be used to compare volatility across pairs to help identify good trading opportunities and/or helping you allocated funds to different Trade Leaders.

Hope your holidays have treated you well. Best of luck with your trading and trader development in 2011.

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Be sure to read the full risk disclosure before trading Forex. Please note that Forex trading involves significant risk of loss. It is not suitable for all investors and you should make sure you understand the risks involved before trading. Performance, strategies and charts shown are not necessarily predictive of any particular result. And, as always, past performance is no indication of future results.

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Be sure to read the full risk disclosure before trading Forex. Please note that Forex trading involves significant risk of loss. It is not suitable for all investors and you should make sure you understand the risks involved before trading. Performance, strategies and charts shown are not necessarily predictive of any particular result. And, as always, past performance is no indication of future results. Investor returns may vary from Trade Leader returns based on slippage, fees, broker spreads, volatility or other market conditions.

Author Bio

In the last post of the Ask the Expert series, Scott Boyd and Dean Popplewell began chiseling away at a question we received about spotting trend reversal.  Today they will focus on another facet of trend reversal: using Bollinger Bands.

Traders have long understood the relationship between volatility and trends. Volatility – that is, the degree by which an exchange rate varies over time – tends to increase as a market trend gathers momentum. This is because traders are buying and selling in greater frequency as they attempt to get in on the trend. However, as the trend nears the end of its run and traders slow their activity, volatility naturally declines.

Because volatility provides immediate feedback on the level of market activity, it is an important technical indicator. One of the most common methods of measuring forex volatility is through the use of Bollinger Bands placed over a price chart as demonstrated below:

Bollinger Bands show changes in market volatility through the width of the two bands formed by the three lines, and the more volatile the currency pair price, the wider the bands grow. In the example above, you can see the bands widening as the price decreases until it reaches a point where the bands suddenly narrow. This indicates that volatility has quickly tailed off which means that market activity has reduced.

Coming as it does following a price decline, this is a strong indication that the rate is likely to increase as market participants consider the new market price. If the price finds support and buyers come in at the current price, the bands will widen in response to the increased activity.

You can learn more about Bollinger Bands on the OANDA fxTrade website.

Next time we’ll continue discussion of spotting trend reversal by looking at different price patterns. Okogba Papa Woyin-Emi (who sent in this question via Facebook), you have been keeping our expert panel busy answering this one! Have questions for Scott and Dean? Send them to us via Facebook and Twitter. We are excited to see what you come up with.

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Be sure to read the full risk disclosure before trading Forex. Please note that Forex trading involves significant risk of loss. It is not suitable for all investors and you should make sure you understand the risks involved before trading. Performance, strategies and charts shown are not necessarily predictive of any particular result. And, as always, past performance is no indication of future results.

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Be sure to read the full risk disclosure before trading Forex. Please note that Forex trading involves significant risk of loss. It is not suitable for all investors and you should make sure you understand the risks involved before trading. Performance, strategies and charts shown are not necessarily predictive of any particular result. And, as always, past performance is no indication of future results. Investor returns may vary from Trade Leader returns based on slippage, fees, broker spreads, volatility or other market conditions.

Author Bio

This is one of an occasional series of guest posts by John Forman, Senior Foreign Exchange Analyst for the IFR Markets group of Thomson Reuters and author of The Essentials of Trading. John is a 20+ year veteran of the financial markets. He holds an MBA from the University of Maryland and a BS from the University of Rhode Island, both concentrating in Finance.

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I mentioned the Commitment of Traders data previously in terms of its usefulness for tracking the positions market participants are carrying in the futures market (see Taking the Trader Positioning Data to the Next Level). The action in the British Pound of late provides a pretty impressive example of how you could have seen ahead of time the prospects for a big reversal were you tracking the COT figures.

Take a look at how short the big traders had gotten in BP futures.

Notice in particular the Bullish column under Large Speculators. See how as of October 13th that group was 88% short (100%-12%). That’s a massively lopsided market.  When a market is so imbalanced like that it sets up for some real volatility when things start going in the other direction. We’ve seen that this week in GBP/USD.

GBP/USD rallied from about 1.5850 to almost 1.6650 in 7 trading days. That’s nearly 800 pips and a great deal of the action, especial the October 15th rocket ride, was the result of short stops being tripped. Basically, we saw a short squeeze in sterling. Had you been watching how short the big players were getting as per the COT figures you could have at least been alerted to the potential for something like this happening and strategized for it.

Currensee Social Indicators
Now the big drawback to the COT data is that it is reported only weekly as of the previous Tuesday. That means the data is several days old by the time we can view it. We had another tip-off, though. Take a look at what happened in the positioning of Currensee members.

The data at right shows the percentage of position volume held by members in long positions. Notice how they started October 13 (the same day as the COT data reported above) very long and by the end of it had gotten quite short.

In other words, the Currensee membership traded the market exactly wrong on net. October 13 was a bullish reversal day. It made a new low early then turned to finish higher. That means the members were long and wrong early, then got increasingly short as the market moved higher.

The argument against using futures data in the Forex market, and one that will naturally extend to the growing Currensee data, is how it only represents a relatively small portion of the market (the above open interest figures amount to only about 7bln GBP, which is only a fraction of the whole GBP/USD action – daily). Still, you use the tools and information available to you, and no position data should ever be ignored even if it’s just a sample. When the Currensee data on retail trader positions is added to the prior week’s COT figures showing a very short positioning among the Large Specs we have a situation where one could see things lining up for a meaningful turn higher going against the retail folks and riding short stops by the bigger players.

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Be sure to read the full risk disclosure before trading Forex. Please note that Forex trading involves significant risk of loss. It is not suitable for all investors and you should make sure you understand the risks involved before trading. Performance, strategies and charts shown are not necessarily predictive of any particular result. And, as always, past performance is no indication of future results.

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Be sure to read the full risk disclosure before trading Forex. Please note that Forex trading involves significant risk of loss. It is not suitable for all investors and you should make sure you understand the risks involved before trading. Performance, strategies and charts shown are not necessarily predictive of any particular result. And, as always, past performance is no indication of future results. Investor returns may vary from Trade Leader returns based on slippage, fees, broker spreads, volatility or other market conditions.