of terrorism, risk management, and the scalping question

Discussion in 'Risk Management' started by tortoise, Jan 13, 2007.

  1. tortoise


    No doubt, this post will strike some as so much fear-mongering, akin to squirreling away dry goods in preparation for Y2K (remember Y2K?). Having said that...

    I can't escape the sneaking conviction that a terrorist attack on the financial markets is not just a possibility, but an inevitability. Whether this takes the form of a cyber-attack or whatever, I haven't a clue. Such an attack, so as to inflict maximum damage, would occur during regular market hours -- most likely, in the U.S.

    I understand that brilliant, dedicated men and women employed by governments and by the exchanges themselves are taking every conceiveable measure to ensure that this does not happen. But it's not a stretch to assume that those who would wreak havoc on civilization are not napping either. And they have something the good guys don't have, or don't have to the same deranged degree: They have passion.

    Again, I may be overestimating the danger here, but is this not a plausible risk? And aren't traders, first and foremost, in the business of risk management?

    For equity-only traders, the risks are one thing. For those who trade derivatives, the risks are quite another. A plausible worst-case scenario -- market activity interrupted by directed terrorist attack, markets reopening with the Dow down, say 2500 points -- would not only wipe out accounts, but lives, as the margin calls might match, or (God forbid) exceed the net worths of many traders.

    Again, this may be a remote scenario. But how remote? The risk is undefinable, perhaps. But are the odds so diminimus as to be inconsequential? Probably not. So, my question is, what does a prudent trader do to minimize the risk?

    One answer, of course, is to abandon futures. Trade ETFs without margin.

    Personally, I consider that solution to be akin to going "off the grid" in anticipation of Y2K. (I know someone who did that, by the way. He's still living in a log cabin in Idaho.) So here's are a couple of "solutions" I am contemplating:

    Solution Alternative #1:

    No more swing trades with derivatives, especially futures. On the ES, one point scalps only, with a four trade daily limit, and a 5 minute duration per trade, which means I leave myself open to market risk for a maximum of 20 minutes per session.

    Of course, this "solution" is more attractive in theory than in reality. One point targets may sound find in the abstract. But you better have a methodology that delivers 75-80% winners to make this work. Vanishingly few of us do.

    Which brings me to...

    Solution Alternative #2

    Two words: SHORT ONLY. Solution Alternative #1 exposes one to a maximum of 20 minutes market risk only if all four trades are longs. If all four trades are shorts, the adverse reaction risk is eliminated, and one would be free set whatever profit target one's methodology allowed.

    Simple enough. And self-explanatory.

    Thoughts anyone?
  2. true thats the one thing that would destroy all these day trading firms with 5k down traders. in 1997 i remember some scary times when the market tanked intraday and i couldn't sell anything for 2-3 pts. the market maker will simply invert the bid and ask. example he'll make ibm $99.71 x$99 and keep it inverted for 20 pts down were your order will stand in line for $10 to $15 pts or more down. probably before then the markets halted or the collars come in to halt the market for an hr. when it reopens ibm gaps down $20 pts on the first trade. its highly unlikely this woulld happen but if it does years of gains gone
  3. doli


    Suppose you take the short only strategy, then the fed announces a surprise rate cut or bin laden is captured?

    "ibm $99.71 x$99" ??? Why not sell at $99.71 and buy at $99, over & over?
  4. tortoise


    Yes, but, see, that's "normal" market risk. Surprise news happens, and you're caught on the wrong side. I'm not talking about "normal" risk.

    I'm talking about the extraordinary, catastrophic risk that, alas, is not such a remote prospect in this day and age. This risk, it seems to me, lies exclusively on the downside. Or, to put it another way, if they capture Bin laden, the markets will not suddenly close, then reopen later 2500 points higher.

    Also, again, my prescription applies to futures only, NOT equities, as futures present the risk of losses far in excess of the size of one's trading account.