Controlling Risk On A Highly Volatile Day

CONTROLLING RISK ON A HIGHLY VOLATILE DAY

If counter-trend traders inadvertently find themselves in a trend day, they can make a graceful exit by using the consolidation patterns as an exit. Let’s assume a trader sells the market at the .618 retracement level and initiates a 3-point stop, only realizing that a trend day is in progress once in the trade. At this point, to control the risk and protect capital, the trader wants to utilize one or more of these trade management techniques:

• Ensure a stop-loss order is in place to prevent a small loss from turning into a large loss.
• Use the small pullbacks to exit if possible.
• Put the stop-loss order just above or below the last small swing high or low.

Again, at the .618 level, and let’s assume the trader is short from the 1383.75 level with a three-point stop and the initial objective was another .618 retracement down. The trader would have an opportunity to exit at least part of position as the small AB = CD pattern forms and to pull the stop down to breakeven. This would allow a small profit even in a countertrend trade. If the trader either does not exit or enters the trade at the second test up of the .618 and then realizes he is caught in a trend, he can either: 

1. Exit the trade immediately and reverse.
2. Use the next small pullback to exit, realizing it may be very shallow.
3. Pull the stop down to the last small high.

Again, in either case a stop-loss order must be in the market to control losses. When traders see prices consolidating on top of Fibonacci levels in an uptrend or  below in a downtrend, they must realize that the probability is in favor of the price continuing in the direction of the trend.

A trader using good trade management techniques would give back very little profit. The market also gaps down lower on the next open. It is wise to listen to what the market is telling us. 

If you are not familiar with trend days, take some time to observe and learn the characteristics and to become adept at trading them. We suggest keeping a file of charts of trends and making observational notes of the repetitive characteristics. Once you are comfortable with trend days, you can formulate a trading plan for them that utilizes proper money management, entry strategies, and stop-loss placement and profit objectives.

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