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Lower Volatility In Currencies Favors Traders Over Speculators

|Includes:CurrencyShares Euro Trust ETF (FXE)

While markets over the last 7 years have raised the profile of money managers and market personalities such as John Paulson, Kyle Bass, and Nuriel Roubini, in the end their name recognition came from speculation; be it with money or outlook. We see the lower volatility and more stable currency markets of today favoring traders.

The difference between speculators and traders is as misunderstood as it is wide. Speculators tend to act on a directional bias, while traders tend to act on math. Speculators often disagree with where a market is priced, while traders tend to agree with current value. Speculators tend to focus on catching a large price move and using leverage to multiply their gains, while traders look for smaller bites and focus on tempering risk. Speculators also tend to not think much of hypothetical results and demo trading, while traders would not think of risking money without both proving successful.

By their very nature speculators need larger price moves than traders do to stay profitable. And no chart makes it more obvious that we are in an environment that favors traders over speculators than the weekly EURUSD chart with an Average True Range (NYSE:ATR) overlay. The ATR records a market's average price range over time - see Figure 1.

Figure 1. Weekly EURUSD Chart with ATR

As the price ranges shrink -- see the lower panel of the chart --so do the opportunities for speculators.

I thought of the difference between speculators and traders after seeing my benchmark spreadsheet in the Euro over the past few weeks. The method I follow is trending in nature so it is not uncommon to see nothing but buy signals, or nothing but sell signals for weeks, even months at a time. Our Yen benchmark is a great example of this; for November every signal generated in USDJPY has been a buy. (The signals are based on the price patterns of 3 successive time frames, which we see as an accurate reflection of underlying fundamentals.) Yet in the Euro we are now seeing signals on both sides of the market. And while it may seem like a stretch to go from talking about the shrinking ranges on a weekly chart to the performance of a relatively short-term method, remember, markets are fractal in nature meaning they exhibit the same behavior on all time frames.

I can't help but thinking that with this shrinking volatility market participants on all time frames better start paying more attention to math and pattern recognition as traders do, and less to the preexisting bias of speculators.

To see Jay Norris highlight trade set-ups and signals in live markets on Mondays & Thursdays go to: Live Market Analysis. Jay is the author of "The Secret to Trading: Risk Tolerance Threshold Theory".

Trading involves risk of loss and is not suitable for all investors

Disclosure: I am long UUP.

Stocks: FXE