Markets oscillate between periods of low and high volatility and this fluctuation can dramatically affect our trading mindset.
When the waves get larger, trading becomes more difficult because normal risk parameters need to be adjusted.
Using normal stops in a high volatility environment guarantees losses and increased losses undermine our trading mindset. That’s a vicious Catch 22.
Additionally, your basic trading method may not work in a high volatility environment. If you are a trend trader, the increased momentum in the market may generate false indications of a trend change. Errors in execution due to erroneous trend information can further undermine your trading mindset.
To address this, I recommend that you consider adding a volatility indicator to your trading arsenal and possibly learning to take advantage of mean reversions.
This might mean trading from volatility band to volatility band… in both directions. If you take this approach, set your bands to encompass the full range of volatility. If you are using Bollinger Bands, that may mean setting them to more than 2 standard deviations.
Additionally, it’s extremely important to monitor your mental and emotional state of mind while trading. The key to successful trading is maintaining an even-tempered focus without emotional swings due to price action or trading results.
Until next time,
Dr. Kenneth Reid holds a Ph.D. in Clinical Psychology. He is currently a trading coach and has published articles for Forbes, SmartMoney, and SFO Magazine. He has also appeared on CNBC and writes a column on The Trading Psychology for Trader Planet. Kenneth Specialized in trading stock and futures and is working on a futures trading book.