BarroMetrics Views: When to Stand Aside
Jerry and Tim wrote in and posed the two sides of a question. Jerry asked under what conditions do I stand aside from trading; Tim asked when do I trade – I seem to stand aside when volatility is low and stand aside when volatility is high.
Here’s are the answers:
Excessive Volatility: My overriding trading principle is to protect my capital: ‘the best offence is a great defence’. Much of my approach is based on what is normal – “What is normal range?”; “What is normal volume?” etc. The ideas set up my trades. But when volatility become abnormally large, experience has taught me that, for my trading, the best thing I can do is to stand aside. I define abnormal as two days where the ATR exceeds mean + 3 standard deviations (based on what I assess to be their historical mean and stdev).
- the S&P has a historical mean of 20 to 25 points with a standard deviation of 8 to 15. I use 60 to 65 as my benchmark for ‘identifying excessive volatility’. On Thursday, May 6, the S&P had a range of 101.79 points and on May 7, a range of 40.98. Clearly ‘excessive’.
- the EURUSD has a historical mean of 130 to 135 points with a standard deviation of 40 to 45. I use 250 to 280 as my benchmark. On May 4 we saw 258, May 5, 206, May 6 338 and May 7 213. Technically the EURUSD has yet to show ‘excessive volatility’. Yet I cut all my shorts; why? Because the test is a guide rather than an absolute rule. In the EURUSD, I made a decision partially on the volatility and partially on the fact that I believed we had probably seen at least a 5d swing low. Given the ranges, I wanted to stand aside to be free to reassess.
Below Normal Volatility: I think Tim’s question may have been influenced by my S&P ‘stand-aside’ prior to my Forum entry of April 29 when I said:
“I rate the probability of a (S&P) top as a high probability event.”
Prior to that I had been standing aside from the S&P; and on May 6, I said here I was standing aside from trading. Hence Tim’s question.
My standing aside from the S&P had more to do with that on one of my technical tenets: ‘a healthy trend is characterised by normal range and volume’. When the relationship is not present, the market is warning of a possible contra-trend move. The longer the dissonance lasts, the larger the contra-trend move will be.
The S&P had been grinding up since the Feb 2 low. For this reason, I expected a sharp move down and was prepared to enter on the first day that the market confirmed start of the down move. This occurred on April 29. I don’t normally stand aside just because volatility is low; I did so in this case from Feb 5 to April 29 (with a few exceptions) because the market was not doing what I expected as far as volume and range was concerned.