How you can trade the volatile FTSE

Over the last few weeks the markets have taken a turn for the better. The FTSE 100 looks like heading back to 6000. And there is so much optimism about right now that it could even power straight through that target.

So will it?

Well it was only five weeks ago, that I said I wouldn’t be a buyer of the FTSE 100. And today I want to show you why I think volatility remains the order of the day.

More importantly, I’ll show you how my favourite trading tool could help you profit.

Yet again, the Bollinger band proves its worth

Five weeks ago I explained why my favourite technical tool – the Bollinger band – urged us to be cautious about the FTSE 100.

Remember that Bollinger bands show us where a share or index should trade 95% of the time. For a more in-depth explanation, see my previous article. But you can see the bands in the chart below…

Three-month FTSE 100 chart with Bollinger bands

FTSE100 index with 'Bollinger bands'
Source: Digital Look

The chart shows the FTSE 100 over the last three months. Bollinger bands tell us that the FTSE should trade inside the light blue area. And it nearly always does. On that basis, you’d be advised to buy near the bottom of the band, and sell near the top.

And by Jove, wouldn’t you know it, the ‘bolly-bands’ were bang on the money in this case. Instead of getting in at just under 5,700 (first red circle) in early July, I said we should wait for a better price. And come July 25, you could have opened a position nearer the 5,500 level (the green circle).

What’s more, with the FTSE around 5,850, it’s now hugging the top of its band again (second red circle). That looks like a short-term sell signal to me.

Now, you can use this information however you like. If you’re trying to lighten your exposure to equities, you could sell some of your stocks now – especially if they’re trading near the top of their individual bolly-band.

Or, if you’re inclined to play the markets for short-term gains, you could place a short on the FTSE.

First though I reckon it’s well worth your while getting used to putting bolly-bands on your stock charts. It’ll help filter out the daily noise distracting you from making the right long-term decision.

And in any case, there is no rush. I think the FTSE will remain volatile for some time. You should have plenty of opportunities to make use of this great tool in the months ahead. Here’s why…

We’re in for more volatility

There’s a fundamental perversity that’s pushing and pulling at the markets at the moment. On the one hand economies the world over are showing weakness – which was inevitable with so many governments try to scale back expenditure.

But then, on the other hand, there’s the constant meddling by central banks. As the bad news builds to a climax, this lot rides to the rescue with economic stimulus.

Right now, the markets are harbouring a not so secret desire for more money printing… and it’s driving markets crazy with anticipation. So we end up with the strange situation where the worse the economic news, the higher the markets go.

And on that basis, we can expect the market to continue doing exactly what it has done for the last couple of years. That is it falls on bad news, then once it’s got really bad, the markets bounce back as the central planners load up the big guns.

The key is not to be wrong-footed by this volatility. Emotionally you might be inclined to put your money in at exactly the wrong time. As the markets trade near the top of the Bollinger band, you’ll feel good. You may consider buying equities. And on those down days – when some new awful data comes out of Europe, or the US – you may be inclined to stay at home.

But if you want to profit from these markets, then you need to learn how to ignore the daily market noise. If markets are feeling jolly, then have faith in the fact that they’ll find a reason to fall. And if the markets are feeling lousy, then always remember: they’ll find a reason to bounce. The best way I’ve found to filter out the noise is by using Bollinger bands. Hopefully they can help you too.

Bolllinger bands are generally very easy to add to a stock chart. In this case, I’ve used Digital Look’s free charting package. I’ve simply logged-on, called up a ‘static chart’ of the FTSE (UKX) – or whatever stock you want. Then click on the ‘overlay’ button on the right-hand side of the screen. Select Bollinger bands and click ‘draw’… it’s that simple.

• This article is taken from the free investment email The Right side. Sign up to The Right Side here.

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