Ten Protocols For Surviving Extreme Volatility

The curse of the traveling mole appears to have struck again. Although it’s become an old joke among senior participants on this board I cannot help but wonder if the universe seems to have endowed me with a special ability of scheduling my trips right ahead of market corrections. Be it a random occurrence (likely) or a profitable super power (not likely), in order to maintain both our sanity and our trading accounts I thought it a good idea to re-post a few protocols aimed at maximizing our chances of surviving in a highly volatile trading environment:

Suffice it to say that this list is obviously incomplete and should always be considered in the context of your own trading activities. If you are a short term momentum trader then you actually may choose to ignore or even invert some of these rules. As with everything in life your mileage will vary. Without further ado:

1. Pick your entries carefully/meticulously. For trend traders the highest probability for success appears to be around major inflection points where potentially large explosive moves are possible. For mean reversion traders this means waiting for extreme signals followed by price confirmation. Everyone has a different lens and we trade different types of systems. What we all share is that our entries need to occur when the odds are clearly on our side. Do not make excuses and be patient. Let the tape come to you.
2. Stick with your initial stop loss – no exceptions. I think that’s a very basic one but it bodes repeating.
3. Keep your stops wider than usual. I recommend > 1.2 x daily ATR(14). So if the daily ATR is 20 ticks then your stop should be at minimum 24 ticks away. Obviously this rule is meaningless if you’re a ST swing trader but at minimum multiply your previous system stop loss by 1.5 or more.
4. Keep your position sizes smaller than usual. I recommend 0.5% of your assets per campaign or less. The advantage of volatile markets is that they can move fast and far, thus even a smaller position should pay off well. You should already understand how R works and that larger stops affect your position sizing [1][2]. For example if you see a crude entry and you have insufficient assets for a single contract then you may want to trade an ETF instead.
5. Do not trail too early. This mostly affects trend traders or people who trade break out patterns. I could draft an entire article about this but in a nutshell you should under no circumstances start trailing until your campaign touches 2R+ MFE. If you want to know why then just look at the campaigns above and you’ll understand. The odds for a final whipsaw before take off are high and I am seeing stop runs ahead of trending moves all the time now. You should also not be too quick about moving your ISL to break-even. Personally I am skipping my b/e rule at this point and will keep my ISL until 2R MFE. If you insist on locking in your entry wait at minimum until 1R MFE.
6. Take partial profits after 3R. This is not something I usually enjoy doing this early. But in the current environment and until we see a reduction in intra-day volatility I believe that taking partial profits after 3R MFE is necessary. How much you take off the table is up to you but I personally cash out 50% of my positions now.
7. Take every single entry. The other side of the coin. There is no problem in being extra picky with your entries. But write down your entry rules and stick to them. Taking one campaign which results in a loss should not keep you from entering again tomorrow if the same conditions represent themselves. Don’t fall for recency bias.
8. Keep a trading log and monitor your activity on a daily basis. Part of that is to also maintain an equity curve which clearly delineates where your pain threshold is and when you should stop trading.
9. If you stop trading keep trading on paper. There is only one way to know whether your system is in a drawdown or if it is permanently broken. You need to keep trading it, even if it is on paper. So keep taking entries in your demo account and record the P&L. As soon as the system appears to pick up again continue trading it, even if it’s with reduced position sizing. It’s quite natural for systems to go through earning and losing periods.
10. Don’t have an opinion and don’t listen to anyone who offers you one. I guarantee you that nobody knows more about the future than you do. We are all driving blind here. Besides, successful trading is not about predicting the future, it is about dealing what’s directly in front of you in the most productive manner. Meditate on that.