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On This Day - 15 NOVEMBER 2019
How to Make Money as a Trader in Volatile Markets
Hi, this is Vijay.
Today, I want to talk to you about volatility in the markets.
How do you cope with it? How can you not lose your shirt during periods of high volatility?
It's all there in today's video...
Enjoy the video...
Today, I want to talk to you about volatility in the markets, how to cope with it, and how not to lose your shirt in the market, during highly volatile trading periods.
Let us first start with what is volatility.
To a trader volatility is a God given boon. Volatility implies the intraday movement of a traded security, be the commodity, currency, equity, or a bond.
High quality offers you above average trading opportunities but excess volatility is counterproductive. It's even lost making.
Do you know why India, in spite of having the best software, the best quality hardware, exchanges with the highest transaction speeds and the largest number of traded securities on them, in spite of which, why are we still categorized as an emerging market?
Because our volatility or the statistical beta, is higher than the global average.
What does this volatility actually imply? What does it tell us about ourselves and about the market participants on the whole?
It basically tells us that we tend to react to prices with emotions as our primary reaction, as opposed to intellectual decisions, mathematical in nature.
The biggest test of a trader comes when he sees, or she sees, a mark to market loss on open positions.
That is when stop losses and the blueprint that we made before we initiated the trade, go out of the window
And then, initially a trader resorts to praying, hope, and what we call hopium, the addictive opium of hope.
You then start to wait for your trade for the next five minutes, maybe 10 more moments, maybe 15 minutes, hoping that prices will reward back to your acquisition cost, that which never happens.
Then panic sets in.
Panic inevitably results in irrational behaviour of either fear or agreed, and then, with a collective knee jerk reaction of, buy or sell, it results in the asset price reacting violently.
Now this violent movement over and above the expected limits is called high volatility.
The first and foremost thing is to identify high volatility periods. The first 5 minutes and the last five minutes of a trading session are actually the periods of time, which you should avoid.
There is a category of traders who specialise in what is known as BTST and STBT kind of trades. BTST stands for 'buy today and sell tomorrow'. STBT stands for 'short today and buy back tomorrow'.
These traders are somewhat similar to IPO investors. A professional IPO investor knows that he or she must offload the IPO allotted shares on the listing day itself.
So a trader who has entered into a trade in the last five minutes of yesterday's trading session will try and exit in the first 5 minutes of today's training session, which makes the last five minutes of yesterday's trade and the first 5 minutes of today's trade highly volatile.
It would make sense to avoid getting into the trap of greed in the first and last five minutes of a trading session.
The second most wallet I'll period in the market is lunch hour. Here, almost all the traders are experiencing some kind of fatigue having traded for about four hours and they want to break up for lunch.
Volumes, therefore fall significantly.
It is doing this bewitching hour that a little bit of a nudge in either direction, sends prices flying up and down.
The operators, the so called big ticket traders, find it relatively easy to influence prices during the lunch hour.
Maybe it makes sense for you not to trade very heavily or possibly not at all, during lunch time.
The only thing that you can do in highly volatile times is to cut back on your trading exposure. It may mean that you'll make less money and smaller take home profits.
But not losing your shirt during volatile times or adverse times in the market is also a part of the larger game plan.
Not losing money automatically results in making money at a later date. Remember your capital ensures your freedom to trade in your next trade.
If you do not lose money in your current trade, you will have enough freedom to trade in your next trade. So, preserve your capital.
So, what is the ideal volatility?
Volatility is measured by a statistical tool called Beta.
If it all a benchmark index say the Nifty 50 or the BSE Sensex moves by 1% in either direction and the underlying security that you want to trade moves by 2% in the same direction, this underlying security has a beta of 2 compared to the benchmark index.
Generally, traders short focus on trading securities with a beta between 1.5 to maybe 2. If you want to stretch your luck, maybe 2.5.
But if the Beta of the underlying security crosses 2.5, maybe you need to give it a good hard second look. Maybe it might be too volatile for you to trade.
In any case, in times of excessive volatility, generally, the larger segment of the trading population, tends to lose money.
The other aspect of our volatility is that in addition to the first 5 and 10 minutes off trade or the lunch hour, each stock, commodity, or currency, has its own predetermined time, during which, it exercises or it witnesses excessive volatility.
The only way to counter it is to maintain a trade log.
You joint down each and every trade or the price mobility if you're not trading, actually, but on paper, is to note down when your particular stock is more volatile and when it is relatively quiet.
Doing it this way, tells you what would be the ideal period or the hour of the day in which you should be taking exposure on that security.
For example, in the case of crude oil, prices normally tend to get highly volatile after 8 PM on Wednesdays, which is the day when the US announces its non-strategic commercial inventories of crude.
Professional traders know 15 minutes before the announcement and 15 to 20 minutes after the announcement, Crude oil prices tend to go haywire. That's a time when you should not be ideally into the counter.
If you were to maintain a trade long, you will realise that on days when volatility actually spiked up, if you had not traded, chances are, I would go to the extent of saying 99% chances are, your take home profits and your balance sheet for that financial year, would be far more robust.
So hey, let's be careful out there and let's avoid excessive volatility.
This is Vijay Bhambwani signing off till we meet again.
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