In a world where the continuous stream of economic and fundamental statistics swamps even the most hardened trader, it’s important to maintain some sort of structure around how you can manage your positions through these numbers and not be caught out by short term spikes of volatility. It also allows you to have a game plan about how you can position yourself so that you’re not paralyzed into inactivity.
Thursday was a classic example of this and created trends that were reversed or continued as each statistic hit. The only real constant was foreign exchange where the dollar weakened or held station as each new story broke. This lack of volatility in relationship to bonds and equities was a good indication of the dollar’s continued inherent weakness that I have touched on in last week’s post as well as the post the week prior.
The day started at 3am with the Chinese economic numbers, which caused a spike in the E-mini and a fall in the dollar. The numbers were not as bad as feared. By the morning all eyes were on the Spanish bond auction, which was well received. Stocks rallied, bonds fell slightly, and the dollar had already weakened further before the number.
Next were JP Morgan’s results, which at first glance were startling good. However, a look below the surface saw that some 36 cents of gain was due to lowering their reserves against bad debts. I perceived this to be a somewhat dubious one-off adjustment that, if I’m right on housing as I have been, could well be reversed in the quarters ahead. stocks spiked again, but reality on the JP Morgan stats caused a drift back, and bonds collapsed far more than had been there reaction to Spain. A second bond negative story was what got the trend moving.
However, by 1.30 there was claims data and the NY Fed and PPI. The market focused on the most up-to-date figure on the Fed as equities went lower and the dollar fell again. The bond bounce was muted. Industrial production for June was slightly better and caused a brief equity rally. The importance of analyzing and understanding stats was significant in the same way for JP Morgan, in that the rise was due to utilities increasing, which was due to the heat wave. That is an artificial expansion.
Finally, the Philly Fed arrived, which was weak as well, and now equities could slide aggressively until (in classic technical fashion) they filled the gap from Monday. This caused the bond market to erase all its losses and the U.S. bond market to rally to new highs. The dollar had already exhausted its ability to trend having been under pressure all day. Also, rumors of the Goldman’s settlement saw all the equity losses erased, but it was too late in the day to influence currencies or bonds in any meaningful fashion. In fact bonds just held there station.
So how do you ride the waves of stories? This depends on what time zone you are trading in. European traders are at an advantage because they have the benefit of riding through all the major statistics, which allows for two major trends per day. American FX traders normally just have one, but equity traders can still get two (as occurred on Thursday). They could end up being all one big trend or a major reversal of the morning move.
Obviously the first thing is to have a firm grip on all the likely market moving events. In order to prevent paralysis, signals must be taken as normal and stops entered. If the statistic moves your way trailing stops can then be applied and the time frame this is applied to is critical. My statistical analysis shows that trends typically last between 15 to 20 bars before some sort of corrective phase. This means that if you want to ride the morning and afternoon trends, a 15 minute chart is the correct one. If there is (as on Thursday) a sequence of tighter times between statistics, this must lower down to 5 minutes.
There are two basic ways to ride the trend (But first, just to use a simple 3 period moving average moved one bar forward so its value is fixed on the current bar. When it changes direction or price closes back in the opposite direction of the average you exit. This is the tightest form of trail you can use.):
- For those who wish to track price action, the use of simple fractals or swing points can be used. In a downtrend as soon a price closes above a bar that was the highest point as the middle bar within a 5 bar patterns, you exit.
- For those that are the most risk averse, you can use a 3 bar pattern, but this method is unlikely to ride the entire trend. In an uptrend it is simply the opposite, so you monitor the lowest middle bar within a five bar pattern. With this method, when a market such as the dollar simply trends throughout day this will normally capture the entire move.
Finally, remember that when a trend day occurs the most common occurrence is that the close will be very near to the absolute high or low of the day.
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