Orange juice volatility, not what you think

Reality programming

In a blow to Hollywood, and perhaps running against the assumptions of most orange juice traders, the "Trading Places" months of December and January were not the top of the volatility list. Examining the table, it is easy to discern that October, August, January and December experience greater than average volatility, but October is much higher than December. Those four months account for 17.17% of the volatility of the orange juice market.

March, April and November are relatively quiet months by comparison, experiencing only 12.3% of the volatility. It may be concluded that the best trading opportunities are likely to be presented when volatility is greatest. It might also be concluded that the greatest risk occurs at those times as well. Short-term traders might find lots of trading opportunity in orange juice during October or August. March and April may be too quiet, but also present less risk.

On average, volatility throughout the year is 14.64%. As a side note, we can examine if extremely low volatility has been a harbinger of any movement. Indeed, it turns out it is, statistically speaking. When volatility in any month dropped below 7.25%, the market often changed direction within the three months thereafter. Often, the low volatility immediately preceded a major market shift.

For example, in December 2006, the monthly low was $1.96 and the high was $2.0940 (see "Calm before the storm," below). This range of 13.4¢ was only a 6.8% swing for the month. Given December is expected to be a pretty wild month, the volatility was less than 45% of what we might normally see. January 2007 saw a major drop in the market, with volatility falling to 13.35%. The all-time high was hit only two months later in March 2007, and then the orange juice market dropped precipitously, falling to $1.1060 in the next six months.

Similarly, in April 2004, the volatility dropped to 4.42% and the market low for the month was $0.5580. The following month, orange juice bottomed at $0.5420 before beginning its wild climb into the 2007 high. Several other examples of such predictive low-volatility activity may be found.

The lessons of the orange juice market may be extrapolated to other markets and shorter time frames. The trader easily can test different hours of the trading day to see if certain periods present higher volatility than others. Similarly, it may be tested to see if sudden contraction in the range of any time bar vs. its historical norm predicts a sudden change in market direction. After all, the goal, as Valentine and Winthorpe say at the end of the movie is: "Looking good; feeling good!"

Arthur Field is a former fund manager for Fidelity International. He wrote "The Magic 8: The Only 8 Indicators You Need to Make Millions in the Markets." Email him at themagiceight@hotmail.com.

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