Wednesday, March 24, 2010

Finding Opportunity in Choppy Markets

My experience for much of the past year is that intraday traders, both independent and at proprietary trading firms, have been struggling to make money. This is because of two reasons:

1) The general drop in daily volatility, creating slow market conditions;

2) The increased choppiness of markets, some of which is attributable to algorithmic trading.

But can traders turn these challenges into opportunity?

David Aferiat of Trade Ideas has recently posted on the topic of finding opportunity in the market's traps. He offers a strategy that relies on mean reversion as a trading opportunity and shows the recent backtested results for the strategy. The post is worth a thoughtful read, because it illustrates the kind of thinking that can succeed in current market conditions.

The general idea is to find points in the market in which bulls or bears are trapped: they have committed to positions, but can no longer move the market their way. It's when they have to scurry out of their positions that the market reversals provide a trading opportunity. Note that this is the foundation for the transition pattern that I recently posted.


TraderJay said...

Dr B - I don;t understand this talk about "choppy markets."

I've been trading in one way or another since 1980 and it seems to me "choppy" is a very normal condition for markets, with "one way markets" existing for much less of the time than uncertain markets.

I have resumed using Pair Trading as a method to take advantage of the "chop"

In any case, keep up the great posting, your work both here and in your books is very inspirational.

M said...

I also don't understand what is meant by choppy. Yesterday was a range bound market. Last summer we had very tight ranges, if that is what Dr Brett means by choppy. I do my best trading in markets like yesterday because given my style of trading, I give the markets more room to come back past my entry price. Yesterday was my best day ever. It's when the range breaks against me that I am in trouble because I lack the experience, maturity or discipline to get out and not double or triple down into catastrophe. I find Dr Brett's posts on recognizing day's structure invaluable reading every morning.

Ed said...

Brett can we at some point admit to the fact that the markets are indeed rigged collaboratively by the Exchanges, the government, and a few select firms? I respect and admire your willingness to help and educate traders to find ways to identify and profit in such markets. To attempt to trade around the manipulation by Algos or whatever entity is responsible is quite a task for the retail trader.