How To Adapt To Changing Markets

Show me a a success dealer all through 2020 and I will display you a person who has tailored well to massive changes within the trading surroundings.

Above is information you normally don't see on your trading screens.  This is the amount of movement that we are averaging for each unit of volume that we're trading.  The blue bars on the chart represent 50,000 contracts traded in the Standard and Poor's 500 futures (ES) from the start of 2020 to the present.  The red bars are a 20-period average range per bar.  Note that, as the market fell and volume increased, the amount of movement for each unit of volume rose exponentially.  Similarly, as volume has come down recently, we have also seen less movement for each amount of volume.  In short, we've seen a great volatility expansion in 2020 followed by a great volatility collapse.

One of the great misconceptions of trading is that all we need to do is find our edge in markets and then all the rest is psychology and staying in the right mindset.  The reality is that markets are ever-changing and so are the edges in trading them.  The market we saw at the start of the year was very different from the declining market of mid-February through mid-March and that market was very different from the present market.  The breakout trades that worked wonderfully and made people so much money when the VIX was north of 50 are now working far less reliably. The successful trader understands the market environment and finds edges appropriate to what the market provides here and now.

Much of the frustration traders experience is the result of an inability to adapt.  It is a great example of how poor trading can negatively impact our trading psychology.  The answer to this situation is not merely to calm ourselves; we have to adjust to the trading environment we're in.

In a talk with SMB traders, I shared an interesting statistic:  the correlation between yesterday's market volume in SPY and today's volume is a whopping +.82 since the start of 2018.  Think about that: volume tells us *who* is in the market.  The odds are good that the players who dominated yesterday's trade will also be dominant today. If we want to find out what the upcoming market will look like--and the opportunities likely to present themselves--we need to actively study the last few trading sessions.  More specifically, if we want to figure out how to make money in today's market, we need to closely examine what worked for us yesterday and the day before.  Playbooking the most recent days' trades will provide us with the practice in pattern recognition that can prepare us for today.

Of course, if we get a genuine catalyst and volume today expands meaningfully above the most recent volume, we know that new players have entered the market and consider the catalyst to be trade-worthy.  That is important information and often precedes momentum moves higher or lower.  Being able to see the new traders in a market or stock and which way they're leaning can itself provide a meaningful edge.

Further Reading:

Why Volume Is So Incredibly Important in Trading

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