Know who’s trading and why

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<ul><li><p>Know whos trading and why http://www.netpicks.com/know-whos-trading/ </p></li><li><p>NFP days can be great to illustrate how markets move because they really </p><p>have the potential to motivate traders to act. </p></li><li><p>Not only is there the potential for a lot of movement, but there's usually a </p><p>good mix of different types of participant active in the markets - and </p><p>it can be really important to know who's trading and why on these sort of </p><p>days. </p></li><li><p>Okay so the backdrop to all of this is that central bank policies are the main driver right now for the markets as a whole. The QE programs that many </p><p>central banks have implemented since the financial crisis have become </p><p>somewhat of an obsession and even an addiction for the markets. </p></li><li><p>The Federal Reserve's QE was no exception. As economies become </p><p>more stable however, the issue is that QE and low interest rates can lead to </p><p>high levels of inflation if left unchecked. </p></li><li><p>So fundamental news such as NFP's, inflation data, central bank </p><p>meetings/minutes and whatever else they say they are currently looking at, tends to bring about a surge in activity </p><p>due to the heightened level of importance it currently has. </p></li><li><p>With the Fed basically saying that they will raise rates at some point fairly </p><p>soon, the NFP release which is pretty important anyway, gives the markets an opportunity to figure out the likely impact of jobs growth (amongst other important jobs data that's released at </p><p>the same time). </p></li><li><p>Scalpers, swing traders, banks, funds and everyone else are all therefore </p><p>likely to be active. </p></li><li><p>Day traders frequently struggle to grasp the relationship between different markets </p><p>and unfortunately, because these relationships sometimes seem so clear, </p><p>they start to lean on them as a tool to help in making context-based trading decision, </p><p>only to find that they don't hold. </p></li><li><p>For example, day traders commonly believe that the relationship between </p><p>stocks and bonds is an inverse one. When stocks go up, bonds go down. </p><p>And this is something that can happen. </p></li><li><p>But the relationship is usually not directly between the stock index and the bond themselves - whatever the </p><p>relationship appears to be is a consequence of what is driving the </p><p>overall market. In this case the driver is the Fed interest rate policy. </p></li><li><p>In essence when interest rates go up, bond prices discount this and as low </p><p>rates are meant to be supportive to an economy, stock markets go down. So </p><p>given that both stocks and bonds could sell off in anticipation of higher </p><p>interest rates, </p></li><li><p>can you tell the difference between the 2 charts below of a stock index and </p><p>a bond? </p></li><li><p>Okay so maybe the prices in these charts will give you a clue to which </p><p>one's which, but they are very similar especially over the final day where </p><p>NFP's were released. </p></li><li><p>Trying to trade one against the other with expectations of an inverse </p><p>relationship would've proved costly. </p></li><li><p>Understanding the potential drivers is however, just the first stage if you are going to be trading on a day like last </p><p>Friday. </p></li><li><p>The next stage is to have a plan for what you think will happen and </p><p>therefore what you might do, given the various possibilities of how the </p><p>data might come out relative to expectations. </p></li><li><p>This doesn't have to be a well-documented plan, it's just good to </p><p>have an idea of what could happen, before the event itself. </p></li><li><p>For the NFP release, the expectation was ~ +235k and the previous figure was +257k. If it came out in line with or close to analyst expectations, then </p><p>expectations of what the Fed might do with rates would be the same. </p></li><li><p>A much lower number (at least below +185k) and the Fed might think twice about raising rates in the near term. Much higher (at least above +285k) and the Fed might have to consider accelerating the process of moving </p><p>towards raising rates. </p></li><li><p>It came out at strong +295k with the previous revised lower by 18k - an </p><p>overall +42k. </p></li><li><p>Liquidity, short-term news players and probably the various other numbers </p><p>released played a hand in an initial pop higher, but then the last scenario </p><p>played out with the stocks and bonds moving lower for much of the session. </p></li><li><p>The final stage is of course, to see how the market actually reacts to the </p><p>release as you never know what will happen. </p></li><li><p>But if you know who's trading and why or at least have a good idea, you're going to have a much better idea of </p><p>what could happen when big numbers are significantly different to </p><p>expectations and the likely extent of subsequent moves. </p></li><li><p>Recognizing this behavior when you see it will help you switch gears and make sure you're on the right side of </p><p>the move. </p></li></ul>