Tuesday, February 23, 2010

A Look At The Recent Volatility Contraction

Over the last few days there has been a sharp contraction in volatility. In July I discussed an indicator that looks at the 3-day historical volatility and compares it to the historical volatility of the previous 10 days. When the ratio gets very low (below 0.25 in the study) it suggests a rapid expansion in volatility is likely.

I show this indicator each night on the charts page of the members area. I’ve pasted a copy of the chart below.

As you can see we have now spent two days in a row below 0.25. I’d expect to see a sharp move occur in the next few days.


Joe said...

I infer by your not saying which direction that forthcoming move might be that it could be a big move up or down....only that your data indicates that there will be a bigger move than recently typical.

So what are we supposed to do with this sort of insight?

Evan said...

it appears you looked at about 1 month of historical daily data. is this adequate amount of data to draw a conclusion? if statistical analysis were applied I don't think this would be enough data to be an meaningful sample. good luck

Rob Hanna said...

Joe -
What you do with information depends on how and what you trade. You could try for a range breakout, which I discussed a bit in last night's subscriber letter. You could make an options play (straddle, strangle, etc.). You could use it to set expections for target prices. Having a volatility expectation can be very useful.

Please use the link I provided to click through and see the July study. There I discuss the indicator results using 2 time frames. 1960 - July '09 and 1999 - July '09. The chart I showed today simply shows a current snapshot.