Remember the anti-drug commercials with the frying pan and the egg? As of late it would appear as though investors have forgotten that you are supposed to say NO to drugs, especially during market hours. In the chart below we have a rolling 21-Day Standard Deviation for the SP500 as well as the 50-Day moving average of that number. On a one month basis we are at the second highest reading in over 10 years, second only to the crash of 2008. Looking at the smoothed 50-day moving average we are actually at a new high. The close to close movement is running at an average of 2.34%. (Click on chart to enlarge)
SP500 Rolling 21-Day Standard Deviation
How can you use this information? There are a few trading strategies you can investigate from this such as selling options or putting on some arbitrage positions betting the spreads will come back in. For most investors however the more important thing to see here is that risk management is not only paramount to your investing/trading but it is a moving target. As a general rule when volatility is high, or extremely high as the case may be, you would want to look at using relatively loose stops, scaling down your position sizes, lowering your leverage, raising cash, etc. While most, maybe all, long time traders already use good risk management we have found that far to many new traders don’t adjust their trading when the market gets stoned. Consequently they lose far more money then they have too. Following tools like this can help you to smooth out your returns and stay in the game.
Disclaimer-We always use risk management and own the domain name riskfreak.com.