market review from LS Trader

Stocks

The S&P 500 reached new 2 year highs at 1224.5 on Tuesday but then moved lower from there, back below the 1200 level and closing the week at 1195.4 and may yet fall further to support at 1167.

The European indexes held up better than the US markets and Friday saw some late buying on the Germax Dax, with the Dax ending higher having been sharply lower earlier in the day. The Asian markets also showed weakness having also been higher earlier in the week.

The stock indexes remain in a long term uptrend and are all above support.

The stock markets continue to be bullish and the long term trend remains up almost across the board for indexes.

Volatility Index (VIX)

It's been a fairly strong week for the VIX, which has once again continued higher from the 17.90 support area and ended with a weekly gain of 12.87%. The next upside target is around the 24.50 area and it remains to be seen over the coming weeks as to whether 17.90 was a significant bottom.

Commodities

Last week we wrote that we were looking for $1400 early in the week as well as the market closing above that level in order to be able to push on. We got a move above $1400 on Monday and a new all time high at $1424.3 on Wednesday and the market managed 2 daily close above $1400. On the weekly chart we did not get the close above $1400 and saw a very steep sell off on Friday of almost $53. In spite of this move the long term trend is still very much up and the market remains above support.

Sugar had a very volatile week having reached a new 30 year high on Thursday but then made the steepest 2 day sell off in 30 years, falling through short term support. Cotton was also lower as were most of the commodities. Overall the long term trend remains up for virtually every commodity market.

Currencies

The US dollar has had a good week with the Dollar Index pushing up to test resistance at the high of the bearish engulfing pattern formed on the 21st October, which is also at a resistance point that has held for over 5 weeks. Friday saw a doji pattern which points to indecision at this level. Due to the market's proximity to this level we will likely see a breakout or a reversal on Monday. If this level can be cleared then we will likely see a move higher towards 80.

The British Pound held up better than most of the majors and buying is entering the market on any falls to around the $1.60 level at present. The Pound also continued the recent revival against the Yen, showing some short term strength in reaching new 6 week highs. The long term trend remains down against the Yen but up against the dollar.

Interest rate futures

Interest rate futures sold off during the past week with the longer term 30 year T Bonds being the most heavily sold, taking the market through support. This has been the weaker link in the interest rate futures sector but the trend overall in the sector remains up.

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Kind Regards

Robert Stewart & Phil Seaton
The LS Trader Team

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Trading news

Trading economic calendar events

In this article we are going to cover 3 different techniques to trade market moving financial events. They each cover a different point in time relative to a particular event.

The first involves opening a trade prior to the announcement, the second considers trading the announcement itself and the third is based on the aftermath of the release. 

Before going into the specifics of each technique there are a few basic concepts which are common:

1.     The Trend is Your Friend – As a rule of thumb, I prefer a trade inline with the underlying trend. One exception would be a material breakdown, below the channel, in a bearish trend or a breakout, above the channel, in a bullish trend.

2.     High Risk Reward Ratio – As trading news carries a higher level of risk, due to a high possibility of slippage and extreme volatility, it’s recommended to go into trades with a risk reward ratio greater than 1:3 or even 1:4. When you are looking to open a trade you should attempt to determine where the current support and resistance levels are to establish where your own stop loss and limit order levels should be.
Therefore, in order for the trade to enjoy a positive expectancy, one should aim that the distance of the limit order level from the current price will be 3 to 4 times bigger than the stop loss level, hence a 1:3 or :4  ratio.

3.     Tight Range – Prior to the announcement it’s preferred if the market is trading in a tight range as this will confirm that traders are sitting on the sidelines, expecting the announcement.

Identifying the Trend and Assessing the Trade’s Validity

To establish the underlying trend and momentum there are a several indicators and overlays aside from price action that may assist you in your analysis.

The first thing I like to do is to observe the prices by using a candlestick chart and following the first rule of trending; rising bottoms for a bull market and falling tops for a bear market.

The second indication I look for can be derived from the daily EMA(87); the 87 period Exponential Moving Average applied to a daily chart. When the market is bullish you can expect the price to mostly hover above it’s EMA(87) and vice versa for a bearish market.

The third indicator is used to asses the current momentum in the market. Typically I use the MACD(12,26,9) and look for positive or negative divergence without any signs of engulfing.

In the next example, we are going to review the underlying condition in the Dow Jones industrial average (DJIA) prior to the March 5^th 2010 unemployment announcement in the US.

Observations:

-          The Market is in a bullish trend.

-          For July 2009 until January 2010, the market managed to stay above the EMA(87). In February it broke below this and only recently has it recovered back above it.

-          The MACD, as our proxy for momentum, suggests that the market is recovering from its recent breakdown as the MACD is diverging positively and has recently just crossed the 0 line.

In order to determine what the risk reward ratio is, you will need to find the potential market turning points.

As we are considering going long we would look for the closest support as a stop loss and the next resistance line as our limit. As explained before, we should aim for the risk reward ratio to exceed 1:3

In the chart, the Dow Jones is most recently trading around 10,400. Therefore, our profit target is 10,070 and our stop loss should be at 10,300. The profit target is 300 points from the current price whereas the stop loss is only 100 points away. As a result, our risk reward ratio is 3.1:1 which is just Within the positive return spectrum

Now let’s get to business and discover the different ways we can trade the news.

Can You Prophet?  

With this strategy we will be opening a position that reflects our view of the market approximately 30-60 minutes prior to the announcement. You should identify the current trading channel and try to get a position below the pivot line if you are going long or above the pivot line if you are shorting.

Your stop loss should be placed at a point where you believe is beyond the reach of a probable market dip or spike, i.e. outside the ‘stop loss kill zone’. If there is something worse than being wrong, it’s getting it right after being stopped out.

Therefore, your stop should meet the two important qualification criteria; it must be below the stop loss kill zone while still meeting the required risk reward ratio. If you cannot meet both of these then don’t get into the trade.

Holding the Stick Both sides

This technique is very different as you will not be taking a view on the market.

When using this method you will be placing two opposite limit-to-open orders that each have their own associated stop loss and limit orders.

You should get into this trade if you believe that there is a very high probability for this event to move the market but are not sure how it will play out.

This trade enjoys an increased probability in two circumstances. The first is when the price is close the top of a bearish channel, or the bottom of a bullish channel, and the news may determine whether the current channel is completed or will be re-established.

The second occasion is if, in the days or even weeks prior to the announcement, the market is contained in a sideways movement lacking any real direction. This is a suggested step by step list:

1.     Identify the current range the market is trading in.

2.     Decide if market conditions justify using this method. If so:

a. Place a limit-to-open long order above the upper bound of the range.

i.      Associate a limit order at the next resistance level.

ii.     Associate a stop loss order at around the bottom of the range.

b. Place a limit-to-open short order below the lower bound of the range.

i.    Associate a limit order at the next support level.

ii.   Associate a stop loss order at around the top of the range.

It should look something like this:

There are a few very important golden rules when attempting this sort of opposite orders trade. 

The long limit-to-open order should be above the stop loss level of the short limit-to-open short order including a safety distance in case the market slips. If possible I like to use guaranteed stops. The last thing you want is to find yourself in a fully hedged position after both your long and short orders are met but no stops are triggered.

There are two possible scenarios where you may incur a loss. Sometimes the market may decide to move one way when the announcement is released, or perhaps shortly before it, and then sharply reverses. In that case you may lose one of the positions and not benefit from the other.

An even worse scenario is if the market becomes extremely volatile and burns your stop loss on both positions. You can minimize this risk by researching the market in terms of volatility and reviewing how the market behaved in the past when the specific announcement was released.

The risk reward analysis mentioned before remains valid, it’s just that now you must make sure it works out both ways in order to validate the positive expectancy of the specific trade.

Are you sure this is where you’re going?

When using this strategy you should still adhere to the basic rules of conducting pre-analysis and determining your actions beforehand.

For example, if you were trading the Dow Jones on the back of a US unemployment news release, this is one decision making process that you could follow:

1.     Determine the current trend in the market.

2.     Consider current price in relation to the trading channel, i.e. is it a pivot, an upper boundary, or a lower boundary?

3.     Research the previous three releases and review:

a.     How the market reacted.

b.    The accuracy of the analysts consensus.

4.     Decide what would be your action plan. For example:

a.     If  current consensus is that unemployment will reduce to 9.7% then

                                          i.    If the actual number is 9.6% or below - LONG, Stop Loss - 10,000, Limit - 10,400.

                                         ii.    If the actual number is 9.9% or above - SHORT, Stop Loss - 10,200, Limit - 9,600.

Once you have determined your action plan you sit tight and wait for the news to be released. Hold tight while the market reacts.

At this point there are multiple scenarios. However, you only care about those which you have an action plan for and believe have a positive profit expectancy.

If the desired correlation between the released figures and the price action takes place then you should get ready. You should wait for the market to make its first move and retrace back. When the price retracement seems to be concluded, that’s when you open your position.

At this point in time the market has made its first move and confirmed the new direction and so the profit expectancy of this trade has dramatically increased.

Below you can find an example based on the May 20^th weekly unemployment report. Consensus expectations were for -446k when the market is trending down. The plan is that if the figure proves to be worse then expected it may fuel further selling and, therefore, short is the way to go. See chart below:

Summary

In this article we reviewed three different ways of trading financial news.

We started with an option where you take a stand prior to the release; this trade carries significant risk and yet offers the highest reward within a short time span.

The second one is unique in nature as you do not take a stand initially but you operate under the assumption that a range breakout will enjoy a continuation.

The third method encourages you to trade a trend continuation after an initial corrective move in the market. The most evident downside to this method is that you might miss out on the first big movement in the market. In this case, the retracement you are waiting for may never occur, or may take place at a much lower level where the risk reward ratio does not justify a trade.

It’s important to remember that, regardless of the strategy you employ, to research, plan and execute a trade only if the underlying conditions match your plan. Do not be tempted to trade just because you prepared for it and are looking for action.

Shai Heffetz
Head of InterTrader.com

Disclaimer
The comment in this blog is the personal opinion of the contributors and not InterTrader.com. The content does not constitute financial, investment or tax advice. You are advised to discuss your specific requirements with an independent financial adviser prior to entering into any bet. InterTrader.com is not responsible and disclaims any and all liability for the content of comments written by contributors to the blog, and the content of any third party sites linked from this blog.

  

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