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A Strategy for Playing Large-Range Days

A Strategy for Playing Large-Range Days

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Published by Mohit Sahu

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Published by: Mohit Sahu on Nov 24, 2011
Copyright:Attribution Non-commercial


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A Strategy For Playing Large-Range Days
By Larry Connors
Many commonly held assumptions regarding chart analysis sound perfectlyreasonable and logical until you subject them to close scrutiny.For example, conventional wisdom states that large one-day moves immediatelycontinue in the direction of the move. My research, however, indicates otherwise.Markets that make big one-day moves attract attention. For example, when theDow makes a large move (100+ points), most news channels carry the story,most newspapers make it the lead business story, and every market analyst andguru explains why the move will almost certainly continue. But looking closely atlarge one-day moves reveals that the vast majority of time markets do not followthrough after these moves--they move sideways!In studying this phenomenon, I looked at large-range days and the price actionthat followed them in the T-bond market over a two-year period--specifically,those days when the market closed two standard deviations (see Table 1 for thecalculation) from its previous close. Such moves occur approximately one out ofevery twenty trading days.Most of the time the market didn't follow through in the next few days followingthe large-range day. In fact, from a directional viewpoint, you could flip a coin asto whether the move would be up or down the next day. Just as importantly, themarket often closed near the closing price of the large-move day three to fourdays later.
Here is how to calculate a two standard deviation move in bonds. We will assume bondsare trading at 110 and their 100-day historical volatility is at 10 percent.10% H.V./Square Root of 265 trading days = .6250%.6250% x 110.00 (bond price) = .6875, or 22/3222/32 x 2 (Standard Deviation) = 1.375, or 1 12/32110.00 + 1 12/32 = 111 12/32110-1 12/32 = 108 20/32
Table 1.
Calculating a two standard deviation move T-bonds.

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