Tuesday, May 23, 2006

Trading a thin volatile market

At the moment it’s just an idea. It might be just another way my devious mind came up with for avoiding taking a stop. On the other hand, it might actually work and that’s why I bounce it into the public in form of an article.

Gold has an electronically traded Full and Mini contract. YG, the mini Gold contract is 1/3 of the full contract per tick. And the Gold contract often has an intraday range of 200 ticks or more. A signal might be valid and the contract still wiggles against you 25 ticks or the signal fails and you have a loss of 30 ticks or more. So that means to prove your signal to be right you have to give your trade more room, than at least I feel comfortable with. On the other hand if the trade goes your direction the rewards are really sweet.

Knowing this, it might be an idea to take the signal with the full contract and then scale out of it, in case the trade goes against you by going counter the mini contract, until you have hedged or even reversed your position.

Globetrader_38
EG:

You get a long signal Gold 659, so you take 1 ZG long 659.
Now you place orders to go short the YG at 657, 655, 653

If your signal works, fine. You take your profits and go, but what happens if not:
If Gold trades downto 653 you are effectively flat being long 1 ZG and Short 3 YG with a loss of 40 ticks, as the average price for your YG short is 655 compared to a 60 tick loss, if you had held just the long. Of course that comes at a price: Had you reversed at 655, you would be up on the short 20 already

If Gold goes down further, you might consider closing your losing Long position, while holding on to the Short for further profits. If Gold bounces back up, you manage the YG Short, making sure, you don’t have a Loss on it. As you are already up 20 ticks, when you open the last position at 653, it should give you enough room to manage the trade.

I would be interested if such an approch has merrits other than producing additional commission, which is why my broker would love me to implement it, I’m sure.

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