TRADING METHOD FX
series of higher lows from its all-time low of 9.50 attained in the middle of December 2006. This series of higher lows showed that a number of traders were willing to pay higher prices for protection as the market continued to rise. They were right as VIX subsequently rose all the way to just above 89 in October 2008 at the commencement of the crash.
CHART 1
Analyzing COT for currencies can also help point the way for other asset classes. As an example current COT readings for the major commodity backed currencies including the AUD and NZD paint a similar picture to that of the CAN$. Tis helps reinforce our current bullish stance on the precious metals and copper. Bullishness on commodity currencies means bullishness on commodities which in turn means bullishness on China as the main buyer of those commodities as well as other emerging markets who produce them. You will notice that all of these asset classes are currently highly out of favour with the vast majority of traders exactly at the time they should be very much in favour.
Another COT example for FX is YEN. In this case the majority of market participants are short the YEN against the US$ whilst the large commercials and elite traders
are massively long. This tells us two things, firstly the YEN will appreciate which it is doing and secondly that risk assets are vulnerable. This is another reason why we are bearish on the S&P500.
VIX: Volatility Index also called “the fear index”
VIX is a popular measure of the implied volatility of S&P 500 index options. Often referred to as the fear index or the fear gauge, it represents one
From that high VIX began to form a series of lower highs even before the S&P500 reached its 666 low in March 2009 meaning that the clever group of traders were less willing to buy protection even though the market continued its fall. We are currently seeing the same pattern emerge. Since March of last year when VIX bottomed at 11 seven higher lows have formed showing again that a small group of traders are willing to pay higher prices for protection even though the S&P500 is in a ‘clear’ uptrend. This strongly indicates that the probability of a downtrend is increasing.
measure of the market’s
expectation of stock market volatility over the next 30 day period. This index climbs when markets fall and falls when markets rise and it rises quicker in falling markets than it falls in rising markets. This is due to the common belief that bear markets are more risky than bull markets.
Prior to the start of the bear market in 2007 VIX had begun to form a
Whilst this small group of traders continue to buy protection at higher prices the vast majority of traders remain oblivious. Would it not be nice to be able to buy at the bottom and sell at the top or vice versa? Nice but impossible. The vast majority of traders want confirmation that a trend has been established before they act. The problem with this approach is that after a major correction, the resultant move can be very powerful as everyone tries to enter the trade.
FX TRADER MAGAZINE April - June 2014 77
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