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Article / 15 June 2016 at 13:00 GMT

Even mermaids can't save you from stormy times

Hypothesis Testing
United Kingdom
  • The volatility index looks deceptively calm at present
  • It resembles the Atlantic when the RMS Titanic set out on its maiden voyage
  • We are now a news driven market, with serious event risks on the horizon
  • Sentiment is bullish but just remember how fickle that can be

By fxtime*

Pity Irish businessman and shipbuilder Thomas Andrews; now an infamous man who found that five days was all that it took before his professional endeavours would fail....and the loss was catastrophic. He spent three years carefully nurturing and building of his project. World fame followed as the naval architect who designed and project managed the RMS Titanic and travelled with his masterpiece.

Andrews' undeniable self belief that his dream vessel would be unsinkable, as he proclaimed to engineers at Belfast shipbuilder Harland and Wolf and the media et al. The ship was to be the future of transport prowess. No one doubted him. The millionaires, the politicians and movie stars all were happy to join the maiden cruise to the US, all amid a lack of sufficient life rafts and life boats, and a general fearlessness of ocean crossings.

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 Markets look deceptively calm at present, just as the Atlantic hid its dangers before tragedy struck the RMS Titanic on its maiden voyage in 1912. Photo: iStock

If ever there was a time for a volatility/fear measure....the VIX index then shipping had created a new low in this volatility index. This index would be becalmed at the time of the maiden voyage, just like the ocean before an iceberg struck with such devastating consequencea. Warnings from other ships in the area of icebergs went unheeded.

Consider the general marketplace now. The volatility index is benign, becalmed like the ocean described above. Newspapers, financial media at large all on the bullish side, we see endless new highs being made and the early storms of January of market turmoil all forgotten. 

It took three hours for the ship to sink entirely. In the same time the S&P500 at the start of the year fell 50 points...in other words, 2.5% of the value of the index just disappeared. By month end we were to witness an even bigger one day fall...70 points...approximately 3.5% gone. Had you traded wrongly on either day via the emini, then if you were lucky you just lost 50 plus 70 equals 120 points; multiply that by £25pp equals £3000.

I say investors were lucky, because pretty much the bulk of the month was hard falls. There was a far greater choice of potential icebergs to crash into.

Now ask yourself where were the commentators, analysts and financial media over the festive period before the carnage happened? They were looking away from their respective screens. Complacency was everywhere. Market opinion was that this is ''an unsinkable market''.

Nobody was looking for mermaids, but an anchor point would certainly have been useful to many. That would be something acting as a secure reference point that operates in the doldrum periods where markets become calm before a storm. Currently the erratic rise and fall seen repeatedly on daily charts have an air of heading towards being resolved. The market presents a grinding upwards momentum, but most leading indicators have become untenable, as they strive to average out the dramatic shifts of risk-on and risk-off moments.


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 Fairy tales say you need to drown first before you see a mermaid (even if it proves a disappointment), but it's better to avoid going under trading-wise in the first place. Photo: iStock


We are now a news-driven market, with serious potential event risks on the horizon. Sentiment is bullish but just remember how fickle that can be.

Thus we need to reduce our reliance currently on the lagging averages etc and consider an alternative value to review market sentiment and direction. This should not be the highs and lows of the daily candles, but the closing price, as this surely shows the hard and fast current market value each and every day. If we are to believe that markets operate in line with an efficient market pricing theorem, then risk/reward is fully priced at the closing bell.


Underlying trends in the S&P500 daily
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Source: Bloomberg

The chart shown above is for the S&P500 daily. We see a series of underlying trends obviously. But trends are difficult to pinpoint in real time. Sure we all see them in hindsight, but like the Titanic we need real time warnings of impending change of circumstance.

The following chart is the exact same market over the exact same timeframe, but using daily settings once again. The only difference is that I have plotted only the price at the close.

Where to short and where to long
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Source: Bloomberg

Now if we were to captain our own ship; we would look at the marketplace only when it is fully functioning and as liquid as any ocean. So avoid public holiday signals or festive shutdown periods such as between December expiry and December 31, as slow-moving calm waters, like slowly moving calm markets, can be dangerous to your financial wellbeing.

The following trade setup is really for traders who want to be exposed to market moves 83%+ of the time and this will permit a trader to stay with your trade to follow approximately 83% of the trend.

Firstly look at the market trend we see now. Obviously it is rising as each wave evident on the close price line chart is giving higher highs and higher lows. But when you get your first close below a wave low, that is when you turn your trade as shown on the charts. It is only the first new close price signal below the current wave lows that will give you a swing short trade. The converse is obviously applicable for swing long trades.

It isn't unusual for the first trade signal to have a minor pullback. So trade smaller than usual with the view of adding to your trade once you are in profit. Money management is partly risk management and value at risk at any given time, so minimise your financial outlay. 

These trades can work equally well with options. Quite a few scenarios are available to you on these; either calendar spreads, strangles, straddles or a vanilla directional play. Risk can be defined and controlled with these structures and are well documented on site via the options team.

Anchor points help you and your trading strategy stay afloat
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Source: Bloomberg

Look at the chart commentary and you will see the obvious signals and its reliability. No trade is perfect, just as history has shown with ships. But on balance, most are good enough to earn their keep. To stay afloat look, for an anchor point to mark where you would turn your trades. 

As long as the marketplace is a major liquid marketplace such as an indices or forex pairing, this will give trade exposure for swing traders. Like all swing traders though, sideways markets can be painful until a true trend becomes clear, which is why I suggest scaled trade sizes.

As for mermaids....fairy tales about these suggest you need to drown first before seeing them. Trading is about avoiding drowning. There's always Copenhagen if you want to see a 'little' one though!


For more on forex, click here.

– Edited by Robert Ryan

fxtime is an alias

15 June
fxtime fxtime
updates for you ref the above...on SP500 and FTSE100
15 June
fxtime fxtime
Options work particularly well with these too !!
21 June
fxtime fxtime
If anyone utilises these may I suggest you overlay the three day trading ranges to enhance the trade signal and fiscal rewards.
16 July
Oscar AbrahamJessen Oscar AbrahamJessen
Do you have a link to the article describing the three day trading range strategy? Nice series of texts btw!
16 July
fxtime fxtime
Oscar here is the link for you;
https://www.tradingfloor.com/posts/mechanical-swing-trading-full-facts-and-real-figures-6968989
an additional signal to enhance profitability and reduce risk is also;
https://www.tradingfloor.com/posts/sentiment-momentum-and-the-perfectly-timed-trade-7019540
Hope they help :-)
Thanks for your feedback too.....have a good weekend.
19 July
fxtime fxtime
An end of day close below 2160 spx cash market would be an ominous close for the bulls imho due to the above details !
02 August
Oscar AbrahamJessen Oscar AbrahamJessen
Thanks for the links, they were a good read!
02 August
fxtime fxtime
You are welcome....I hope you earn from some of them ? :-)
21 September
Rogan Rogan
Excellent article, it has really opened my eyes to the clarity that using line graphs can give to a trade. Do you only use the daily time frame or would you recommend hourlies too?
21 September
fxtime fxtime
Longer time frames give superior results however you can use one hour and 4hr charting and still make a profit. The one hour or less time frames require you only trade signals that occur intraday when the market you are trading is physically open eg ftse cash market must be at least 15mins beyond the 8am open.
21 September
fxtime fxtime
Rogan I am impressed you found this article as it must be very well hidden in all the other onsite stuff :-)
21 September
Rogan Rogan
It was probably the catchy title which caught my eye, but I'm slowly sifting through your articles...could do with an archivist :)
21 September
fxtime fxtime
Many have said the same !
The site is more geared for real time events and analysis than a library of strategies or my stuff is just so oddball that it is best hidden in the commentary LOL.
A core part of trades are based on std dev...link attached
https://www.tradingfloor.com/posts/adding-bell-curves-and-whistles-to-your-trading-strategy-7163807
along with probability theory (again link attached)
https://www.tradingfloor.com/posts/trading-a-missed-move-7206136
21 September
fxtime fxtime
Ref intraday usage...may I suggest 15min for mainstream FX !
21 September
Rogan Rogan
So any liquid major FX pairs basically, thanks....I will give the 15mins a try. I scalped cable this morning on an hourly timeframe and it worked beautifully. I think trading with a close only value chart has real potential, Candlesticks might have given an edge before Steve Nison wrote his books but I reckon that they are quite overrated and subjective now. Thank you for sharing this with us
21 September
fxtime fxtime
You are welcome :-) Well done with your profitable trade too.
21 September
Rogan Rogan
Thanks for the links to your other articles!
26 September
Rogan Rogan
Fxtime,I thought you might appreciate some feedback re your excellent and clever setups,,,I combined 2 of your strategies ie the late morning uk100 reversal and the mermaid trade . 5 points gained on the uk 100 as shown on chart, pity I didn't get the leg down Lol but a good profit nonetheless. I winged it a bit on the exit but what would you have used as an exit signal?
26 September
fxtime fxtime
For intraday the best stop is a trailed stop. Normally I use a preset order size trade ticket that will halve the position after a certain number of points then the remainder has as top set to b/e at the same time. Well done with the profit too :-)
The trade entry can be optimised and I will try and find the article for that as it may be of interest to you.
26 September
fxtime fxtime
Found the link.....you can trade the above structure as it stands or use the classic chart settings such as candles and OHLC bars whilst monitoring the close prices but you can also with this link optimise your profits and reduce drawdown with the following..
https://www.tradingfloor.com/posts/in-forex-one-plus-two-plus-three-equals-skew-7704855
26 September
Rogan Rogan
Thanks mate, I will read through the link.
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