Keeping a market perspective

20170909 Market perspective

When I was a kid, there was something distinctly exciting about flying by plane.Whilst perhaps this might be skewed by pangs of nostalgia, I think the main reason, was simply that airports were less busy and it was relatively novel experience flying (well, at least for me). With the reduction in airfares, perhaps unsurprisingly we are flying much more. There is however, one thing that has not changed about air travel, the wonderful view of the world you have from 30,000 feet. The perspective is obviously totally different compared to ground level. Waterways glisten in the sun, seemingly still. Cars cling to highways, crawling along like ants. Fields join with one another as though they were patchwork quilts. The world seems so serene, so civilised, when viewing from miles above. Contrast that to the view on ground level, where, it is the details we notice more. At the same time, the ground level perspective makes it more difficult to see the patterns we might observe from above.


In a sense, the market is like that. Your market perspective may depend on what you observe. An intraday trader will be observing price action a high frequency, trading in and out of the market, seeking to monetise relatively small moves. For a longer term asset manager, they will be looking to put on trades which they will hold for weeks or perhaps months. So whilst, when executing the trade, the shorter term perspective will be important, it should be a less significant factor versus the profit target of a trade. Continually observing the market at such a high frequency at all times for a long term trader, will likely be adding a lot of noise to their observations. This of course contrasts to a high frequency trader, where the profit targets on every trade can be so small, that even a tiny shift in short term price action (eg. through slightly wider spreads) can render a strategy loss making. The market is an aggregation of not only traders with different time frequencies, but also with different objectives. There are many degrees of freedom to your market perspective. A corporate is not necessarily trying to “make money” on trading, it trades because it has to as part of its every day business. By contrast, you would hope that a speculator is aiming to profit from his or her trading activity. So the market is an amalgamation of different perspectives – of course if it wasn’t, there would be no market!


So as a trader, how can we take advantage of different perspectives? One example can be seen in the case of selling volatility. Generally speaking there is a risk premium associated with volatility. Folks are willing to pay more for vol than potentially it might realise: their perspective is that they simply want to hedge away risk and are willing to pay for that privilege. Selling vol can monetise this risk premium (admittedly, with the risk, it bites us during a crisis!). A client might be willing to take pay a large spread, to offload a large amount of risk to a market maker. I admit these examples are fairly obvious, but hopefully they illustrate my point, that there are trading opportunities which are thrown up by the fact that there are different perspective at play in the market. Indeed, without them, there would be no market and no volatility!