Playing The Range

• faithmight
• December 21st, 2009

Here we are in the thick of holiday trading! Christmas is Friday, 2009 ends in under 2 weeks, and sentiment amongst traders on StockTwits and Twitter has been cheery. These thin holiday markets can find currencies rangebound as big money squares books for the year-end and the market in general sizes up how the world is doing this first year into the financial crisis.

Not all ranges are made equal. Some ranges can be very choppy marked with high volatility. Others can be wide with an ATR (average trading range) of 60-160+ pips. The $GBPUSD can be known to trade very choppy when it finds itself in a range. But there are plenty of great traders who can take advantage of this volatility. However, I prefer ranges that develop over a day rather than a few minutes and have an ATR of 60+ pips. The $EURGBP is one such currency pair and is perfect for this discussion.

Now the trading strategy with rangebound instruments is to simply buy at the bottom and take profit at the top. Then sell at the top and take profit at the bottom. You can go on like this UNTIL price breaks the range. When this happens, the range is invalidated. And you can expect price to continue on in the direction of the break.

2 weeks ago, the $EURGBP had been stuck in a truly textbook range. The upper limit of the range here was the 0.9090 level with a secondary top at the 0.9060 level. The very bottom of the range was the 0.9000 level with the 0.9020 level as a secondary bottom of the range. A break above 0.9090 level to 0.9100 or a break below 0.9000 invalidates the range and starts a breakout move in the direction of the break. On December 11, price action broke the range to the downside with stronger than expected retail sales and consumer confidence out of the US increasing risk appetite in the $EURGBP and strengthening the GBP below 0.9000. Though price did bounce out of there, it made a lower high at 0.9047 and then continued to make a lower low at 0.8848.

Now I believe that the $EURGBP is, again, rangebound after making the new low last week. The fundamentals for the GBP have long been bearish as the UK economy has yet to see growth, the BoE maintains ultra-accommodative monetary policy, and now rising concerns of its sovereign debt. However, the EUR also has fundamental problems with Greece, a member of the European Union, suffering from sovereign debt issues and also possible exposure of EU banks to debt in Eastern European countries. Given that the current financial crisis is most solely imputed to debt – whether household, corporate or sovereign debt – threats of debt default scare the markets silly. So much so that the market has punished the EUR despite its fragile economic recovery. With the bearish gridlock in the fundamentals, the $EURGBP finds itself rangebound again. The top of this new range appears to be the 0.8880 level with the extreme top capped at 0.8920. The bottom of the range is supported by the 0.8860/50 level. As long as price remains below the 0.9000 whole number and large quarter point, this pair continues to be bearish.

Range trading employs a simple but still risky trading strategy. First, you need to recognize a that the currency you trade is, in fact, rangebound. Respect the highs and the lows until the breakout occurs. A breakout will most assuredly occur. The question is in which direction. Aggressive traders will play both sides of the range. More conservative traders should play the range in the direction of the potential breakout.

As always, trade what you see, not what I think.

The information in this blog post represents my own opinions and does not contain a recommendation for any particular security or investment. I or my affiliates may hold positions or other interests in securities mentioned in the Blog, please see my Disclaimer page for my full disclaimer.

Tickers: $EUR, EURGBP, GBP, GBPUSD

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