Adjusting For A Volatile Market
|
TraderTalk July 18, 2002 |
“Adjusting Position Size
For A Volatile Market”
with
Larry Connors
send your questions to:
tradertalk@tradingmarkets.com
Assume S&P cash ($SPX) closes at 1000. If volatility is
20%, there is a 2/3 probability that the range will be between 989 and 1010.
If volatility doubles to 40%, there is now a 2/3 probability of the range being
between 979 and 1021.
(i.e. the likely range of the day has doubled)
If you’re using a fixed-amount stop, this means you will be likely be stopped
out twice as often.
i.e. if you risk .50 on 1000 shares, you will likely see your stop hit
twice (2x) as often
How Do You Adjust To Increased/Decreased
Volatility?
Use the 100-day moving average of the VIX to give a normal
reading. This normal reading will be the base of your position size.
Example: If the 100-day moving average of the VIX is 20%. And
hypothetically, today the VIX reading is 40%. This means the likely range will
be double.
The VIX has doubled since March
General Guidelines
If you normally trade 1000 shares, you should cut your
position size in half.
Normal volatility today as measured by 100-day moving average
of the VIX is 25%.
If you typically trade 1000 shares, you should adjust your
position size to adjust for the VIX as follows:
VIX Shares
25% 1000
30% 900
35% 800
40% 700
45% 600
50% 500
At 20% VIX, you might increase to 1200-1300 shares (i.e.
March 2002)
Positives of increased volatility:
When you are correct, your gains will normally be double your
average.