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NIAL FULLER
Professional Trader, Author & Trading Coach

How Changes in Market Volatility Should Influence Money Management

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By in Forex Trading Blog Last updated on | 18 Comments

volatility_0A trader may do well for a year, the strategy rocks, then they go through a period where they are not as profitable. They are using the exact same strategy but it falls to pieces the next year, why? This article will help you avoid this trap by explaining why you need to monitor volatility and use changing volatility to adjust the risk / reward on trades by editing your stop distance and profit objective.

This article is designed to put the idea in your head that as volatility changes in the market, the way you look at stops and profit targets should change in accordance with it.

Volatility phases

Markets go through different volatility phases and you need to be aware of that. What this basically means is that a market may currently be going through a period of high volatility where it’s moving a lot each day or week, but that won’t last forever and eventually it will calm back down and the daily and weekly ranges will become smaller. If you do not adjust your risk reward profiles accordingly, you will experience some problems…

If you’ve been doing well for a while but now your targets stop getting hit, maybe you just aren’t adjusting them for changing volatility?

As a market’s volatility or daily price swings change, so should your stop losses and targets. Low volatility can seem like the market’s hardly moving at all, but in reality the only thing that is changing is the volatility, so your stop loss and your profit targets need to change accordingly. In the case of lower volatility, your stops and targets would need to be closer than they are during higher volatility.

If, for example, you normally trade with a 40-dollar target and 20-dollar stop and then your targets stop getting hit and you’re losing more than you should have been losing relative to the risk reward, you didn’t adjust your money management as the volatility shifted. As volatility changes, so to does the potential risk reward on any given trade.

If you didn’t adapt and you lost 20$ at your stop when you should have been losing $15, you are going to be angry. Similarly, if you don’t adjust your profit targets for changing volatility you may miss your target where it could have gotten hit if you had a closer target.

Volatility changes as the market moves a different amount on a month-to-month basis and quarter-to -quarter basis. Look at a year ago vs. now, get a feel for how the volatility compares now to then. Money management should be based around current dynamics and should evolve as those dynamics change. Don’t be trading the same way you were 3 years ago if volatility is now half what it was then.

For example, if the average weekly and daily price range changes by 50%, then it should go without saying your stop losses and targets need to change by about 50% too.

Look at the chart below, you will notice the market shifting from periods of high volatility / big daily moves, to much lower volatility / smaller daily moves. So, when you see these changes in volatility take place, you need to adjust your money management approach accordingly.

changingvolatility

As volatility changes, so do horizontal levels

If you have read my articles on how to draw support and resistance levels or how to place stops and targets like a pro trader, you already are aware of the importance of support and resistance levels in stop loss and target placement. However, what I did not get into in those lessons is that as market volatility changes, so will nearby support and resistance levels.

You might be wondering about the ATR or average true range, and where that comes into play here. Well, the ATR is a good tool to use to measure the current / recent market volatility, but we are still going to be using support and resistance levels as important barriers to look at when placing our stops and targets. You don’t want to just place your stop loss based on the ATR, because horizontal levels are always the best places to look at when deciding where to place stop losses.

If you notice a market’s volatility has increased or decreased by a lot recently, you need to also look at where the most recent support and resistance levels are when you go to enter a trade. If a market has recently had a big uptick in volatility, you will have to look at levels further away from current prices, to place your stops. Similarly, if a market has recently had a big drop in volatility, you should be looking closer to recent prices to place your stop losses. Also, remember, as your stop loss changes so must your position sizing on a trade, if you want to maintain the same per-trade dollar risk amount you normally use.

srandvolatility

Conclusion

We cannot just jump into the market and totally disregard the fact that it is a constantly changing, dynamic entity. Market volatility is something we must be aware of as traders. We need to make a habit out of observing market volatility every time we analyze the market and make sure we adjust our stop losses and targets as well as position sizes, according to these changing market dynamics.

Learning to recognize and analyze changing market dynamics is a function of understanding price action and learning how to trade from price. This is what I am here for; to help you learn price action trading and to help you make sense of the constantly changing dynamics in the market. Once you fully understand how to read price action, recognizing changing market volatility will be no problem for you, it will come naturally. To learn more, check out my price action trading course and members’ community.

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About Nial Fuller

is a Professional Trader & Author who is considered ‘The Authority’ on Price Action Trading. He has a monthly readership of 250,000+ traders and has taught 20,000+ students since 2008. Checkout Nial's Professional Forex Course here.
  1. ejukorlem stephen February 18, 2017 at 4:47 am

    Thanks very much Nail.

    Reply
  2. KRISTOFA OKENTA October 25, 2016 at 5:36 am

    Great article. Thank you.

    Reply
  3. Unah Diamond Bethel October 21, 2016 at 2:47 am

    Honestly,i call you Forex Professor.Just keep it up.

    Reply
  4. Adarkwa September 30, 2016 at 7:00 am

    I like what I have just read. I hope you will always keep us educated. Want more of this article to read.

    Reply
  5. phil caulfield September 23, 2016 at 10:15 am

    Brill as always Nial
    Thanks.

    Reply
  6. Sthembiso September 22, 2016 at 5:25 am

    Thanks Nial, well understood.

    Reply
  7. Promise John September 18, 2016 at 11:14 pm

    Thank you very much Nial, this is great.

    Reply
  8. Jeremy Lee September 18, 2016 at 5:48 pm

    A very timely article, and immensely relevant!

    Reply
  9. Sthembiso September 18, 2016 at 3:57 pm

    Does this mean if I was risking $50 per trade I have to reduce it should the volatility decreases Sir?

    Reply
    • Nial Fuller September 21, 2016 at 5:43 pm

      No, it means the stop distance (amount of pips risked) changes. As a result of that, the position size also must change (number of contracts traded).

      Reply
  10. Robin Pike September 17, 2016 at 5:52 am

    You said, “..adjust our stop losses and targets as well as position sizes…” and I understand adjusting the SL and TP targets but once you enter into a trade, there is no way to adjust the position size… or am I missing something?
    Thanks

    Reply
    • Nial Fuller September 17, 2016 at 12:55 pm

      Robin, adjust position size before you enter a trade.

      Reply
  11. Anthony September 17, 2016 at 5:29 am

    wow! this is great

    Reply
  12. Woodrow September 17, 2016 at 5:19 am

    Excellent reminder Nial, thanks

    Reply
  13. Helen September 17, 2016 at 3:41 am

    Thank you team

    Reply
  14. Issa Maluf September 17, 2016 at 2:41 am

    Another very relevant post.
    As a beginner I was yet aware of that.
    Thanks for enlightening us, Nial.

    Reply
  15. Md. Munjur Ali September 17, 2016 at 12:24 am

    Dear Sir
    Nial Fuller,
    Very very useful article for market volatility high and low for take place stop lose and profit terget. And also money management and lot size. Thank You.
    Any how I want to learn with you Price action trade.

    Reply
  16. Khesiwe September 17, 2016 at 12:15 am

    This is wonderful thanks Nail.

    Reply

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