Points of Percentages – how do you trade?
It’s a holiday weekend… Most of you are working behind a BBQ rather than trading terminal (if you’re analyzing trades for the week… stop). So we thought now would be a good time to go over one of the most common questions we receive… Position sizing.
Position size is always an important factor when deciding when and how much to trade. In addition to your own risk and reward, how does the underlying price of the market also impact this decision? The answer to that questions lies, not in the difference between ETFs and futures but in the difference between the way in which we think about ETFs and futures
The variation in terms and focus often leads not only to differences in results, but differences in strategies.
Let’s look at Crude, for example.
| Average Daily Range – Points | Average Daily Range – % | |
|---|---|---|
| July / August 2014 | 1.47 | 1.43% |
| July / August 2015 | 1.97 | 4.18% |
July and August of 2014 saw an average daily range of 1.47 futures points or 1.43%. July and August 2015 saw an average daily range of 1.97 futures points or 4.18%. A 34% increase in range for futures also equated to a 192% increase in the range of ETFs. Why?
Price. In 2014, the average daily price of Crude was 102. In 2015, that average price was 47. Every point the market moves off 47 becomes twice as valuable as a point that moves off 102. In futures, the underlying value of a point does not change. A market that moves from 100 to 101 is just as valuable as a market that moves from 50 to 51. In the case of crude, that 1 point is worth $1K. But in ETF terms, the market with the lower underlying value becomes intrinsically more valuable. And as a futures trader, unless you change the leverage to adjust to the change in price, you won’t experience that adjustment in percentage.
Let’s look at the S&P. For the year, through August, we are up 303.75 futures points. Historically, we have averaged 341.04 points per year which means we are above average through eight months of the year. In ETF terms, we are up 14.36% and have historically averaged a 35.85% return per annum (this puts us less than half the annual average).
That’s a big difference between the two when comparing to historical average… and the reason again is price. Equities are near all-time highs. At those levels, the value of a futures point becomes increasingly more valuable relative to the value of a percentage move. (i.e. A 10% move off 2000 is 200 points. A 200 point move off 1000 is a 20% move).
| Year | Average Price | Average Daily Range – Points | Average Daily Range – % | Value Ratio Points / % |
|---|---|---|---|---|
| 2007 | 1367 | 19.81 | 1.46% | 1.36 |
| 2008 | 1072 | 36.14 | 3.75% | 0.96 |
| 2009 | 801 | 21.65 | 2.88% | 0.75 |
| 2010 | 1010 | 18.48 | 1.85% | 1.00 |
| 2011 | 1157 | 24.30 | 2.14% | 1.14 |
| 2012 | 1293 | 17.50 | 1.36% | 1.29 |
| 2013 | 1581 | 16.83 | 1.07% | 1.57 |
| 2014 | 1894 | 19.94 | 1.06% | 1.88 |
| 2015 | 2063 | 26.55 | 1.30% | 2.04 |
Notice how when markets drop in price, the value of a futures point becomes less impactful relative to the percentage gain of a portfolio focused on percentages rather than points. Conversely, notice how when markets move to higher levels, the value of a futures points grows relative to the value of a percentage move.
So what does this mean? In short, it means pick a strategy and stick to it.
If you are focused on points captured, then be prepared to make the leveraged adjustment when markets fall to lower prices… and be prepared for wide ranging moves. If you are focused on gains as a percentage of your portfolio, then be prepared to suck up the ranges when markets trade a historically low level… and be prepared to fall asleep when markets trade at historically high levels.
Everyone needs a strategy to follow. Actually finding one is easy. The most important part of having a strategy is that it’s actually followed. Have a plan and stick to your plan. Systematically and unemotionally.