In a previous life that feels like forever ago, I used to stand in a trading pit on the floor of the Chicago Mercantile Exchange and trade Interest Rate Future Spreads. The market definitely had a feel to it when you were standing on the floor of the exchange. You could always tell when it was nervous and potentially volatile, and you would make adjustments for that in your aggressiveness level. When markets are volatile, adjusting is a key.

But volatility aside, it always seemed to follow the same set of indicators based on a common assumption of the trading community, and we were generally on the same page most of the time. In normal, day-to-day conditions, if we saw positive news for the economy, stocks would rally and bond yields would go higher.

When markets are volatileLike I said, this was a long time ago, when there actually were interest rates. When the Fed was active, or “in play” as we used to say, bond yields and stocks would move in opposite directions: Fed was expected to lower rates so stocks would go higher, or Fed was expected to raise rates (consult a history book for an example of a real Fed tightening cycle) which would pressure stocks.

The markets moved because of the opinions of heavy players in the trading community, and aside from flippant remarks by a Fed Governor or geopolitical events, the markets behaved rationally for the most part. Today, it is not necessarily ideas or opinions that move markets; it is automated trading programs.

A statement is released by the Fed Chairperson and the algos react immediately. Or a multi-billion dollar hedge fund decides this week that there is a correlation between two commodities (stocks and crude oil, anyone?) and deploys an algo to move one of those markets accordingly.

This correlation is not because of a generally accepted theory in the trading community, and the movement isn’t just similar in the two commodities. It is the same. And then all of a sudden the correlation is gone. Not because of a sea change of popular opinion or a change in global conditions, but because of a change in computer code. These changes happen intra-day. You can see when the algo is running and when it isn’t.

When the markets no longer made sense to me because of constant spastic movements thanks to the algos, and I no longer had any “feel” for which way the market was heading, I stopped trading. When Markets Are Volatile, You Must Stay Versatile. I have been writing algorithms for traders ever since. One thing I have noticed: most people don’t want me to automate strategies that are based on technicals or fundamentals. They want algos that react to particular movements in the market.

In other words, conventional wisdom has given way to merely reacting to other trading algorithms. This should tell you something. The guys who are still making money trading are doing so by reacting to the actual forces that are moving the market: the algos. And the only way to react to an algo is with another algo.

“No, his mind is not for rent, to any god or government. Always hopeful yet discontent, he knows changes aren’t permanent… … …but change is.”

-Neil Peart/Pye Dubois

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Professor Algo