Tag: Automated Trading Accounts

Crude Oil and Its Refined Products

The percentages above are determined by the refiner depending on market demand and supply for each of the refined products.
*Data provided by EIA November 2013

 

Trading energy futures products in your portfolio enables you to take advantage of many benefits NYMEX has to offer in this
market, including:

 

 Deep Liquid Markets – NYMEX WTI, ULSD, and RBOB Gasoline offer the deepest liquidity, largest open interest and tightest bid-ask spread of any oil benchmarks.

Product Choice – choose from wide range of energy products – the broadest slate of crude and refined products in multiple contract sizes that enables customers to find trading opportunities with various sized portfolios.

Access – on CME’s Globex you can trade nearly 24 hours a day.

NYMEX WTI CRUDE OIL FUTURES AND OPTIONS

West Texas Intermediate (WTI) crude oil futures have been a transparent global benchmark for crude oil prices. WTI light sweet
crude oil is of extremely high quality and can be refined into more gasoline per barrel than any other type. It is the primary type
of crude oil refined in the United States, the largest gasoline consuming country in the world.

Fundamental factors that influence WTI crude oil futures prices go beyond simply the supply of oil to include the demand for its main
refined products—gasoline, heating oil and diesel fuel. Prices of these products can also shift with the seasons and the economy.

NYMEX RBOB FUTURES AND OPTIONS

The RBOB futures contract represents blending components that make the gasoline used in cars and other vehicles, i.e.,
unleaded gas. Gasoline accounts for nearly half of U.S. petroleum product consumption, according to the U.S. Energy
Information Administration. The RBOB initials stand for Reformulated Blendstock for Oxygenate Blending.

RBOB futures prices are affected by the price of crude oil, from which it is refined, as well as the demand for gasoline. Traders
in RBOB futures find opportunities in watching the ever-shifting relationship between crude oil and its refined products, each
with its own set of supply/demand influencers.

NYMEX USLD FUTURES AND OPTIONS

Heating oil prices, driven largely by weather and seasonality, represents a unique part of the energy sector. Prices are closely pinned
to spot prices on jet fuel and diesel fuel and there are natural connections to other fuels such as crude oil and RBOB. These closely
related fuels can offer several opportunities to the trader looking to take advantage of the relationship between these markets.

CONVERSION OF RBOB PRICING TO CRUDE OIL PRICING

“Crack Spread” pricing is quoted as Refined Product minus Crude Oil. However, refined products such as RBOB or ULSD are
quoted in gallons while Crude Oil is in barrels. A conversion must be calculated in order to get a common quotation. How do we
convert knowing 1 barrel is equivalent to 42 gallons? See charts below.

If you have any questions send a message or contact me

Regards,
Peter Knight Advisor

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Natural Gas in a Producing Revolution

Energy Educational Homepage

Even though the US experienced one of the coldest winter heating seasons in (2013/14) many years, the spot Natural Gas or Nat Gas for short, futures price did not increase to anywhere near the levels it did during previous very cold winters nor did volatility go through the roof. The main reason for this significant change in price activity is the surge in US production of Nat Gas from several very large shale gas producing regions of the country. That said, Nat Gas price activity remains a function of supply and demand. Although futures prices have not returned to the double digit levels seen in the pre-revolution years, prices did hit the highest level this past winter since the winter of 2009.

The major change in the Nat Gas market over the last several years is primarily on the supply side of the equation. Demand has been growing slowly with the occasional demand surge due to weather as we saw in the winter of 2013/14. The Nat Gas futures contract traded on NYMEX is principally a US produced and consumed commodity. Some Nat Gas flows from Canada and some gas flows to Mexico but as of now the LNG market is still not a factor in either flow direction.

The demand side of the equation is impacted by the economy. As the US economy moves into a sustainable growth pattern, the use of Nat Gas will likely continue to increase in the industrial and commercial sector. With the abundance of Nat Gas due to the shale revolution and relatively low prices versus many other places in the world, there has been a manufacturing advantage for those sectors using Nat Gas in their manufacturing operation. Although this is a growth area for Nat Gas, it will not result in a surge in demand in the short to medium term, rather, it is a slow and steady growth area.

Utilities may burn more or less Nat Gas depending on prices between oil, coal and Nat Gas. Many utilities have the capability of switching between Nat Gas and coal based on the most economical fuel at the time. Since the second half of 2012 the majority of the time coal has been more economical than Nat Gas for power generation. To the extent that a utility has the capability to burn coal it was likely their preference for the last several years. This pattern is likely to continue in the medium term especially with Nat Gas inventories still well below normal after the cold winter of 2013/14 (and prices higher than the last few years). Over the long term the EPA has placed additional regulations on coal driven power plants which will result in less coal and additional Nat Gas consumed for power generation.

Thus the main incremental use for Nat Gas in the US is for meeting heating and cooling needs and will remain in this pattern for the foreseeable future. A larger percentage of Nat Gas is consumed during the winter heating season with a portion of the consumption during the summer cooling season to supplement utility demand of air conditioning.

Nat Gas futures prices are generally driven by the short term weather forecasts produced by NOAA (free) and many private forecasters (fee based service).

Following is the latest actual and forecasted demand for Nat Gas produced by the EIA shown on a quarterly basis. The table shows the seasonal demand for Nat Gas during the winter and simmer seasons and is highlighted in red.

Nat Gas Consumption US (EIA Data), BCF/Day
2014 2015
Q1 Q2 Q3 Q4 Q1 Q2 Q3 Q4
Residential 28.86 7.09 3.55 15.5 24.3 7.1 3.68 15.8
Commercial 16.55 5.75 4.33 10.2 13.8 5.8 4.35 10.4
Industrial 23 19.8 19.5 22 23.2 20.6 20.3 22.6
Electric Power 19.79 20.9 28.4 19.9 20.4 22.2 29.2 20.7
Lease and Plant Fuel 3.95 3.98 4 4.02 4.05 4.06 4.06 4.08
Pipeline & Distribution Use 2.68 1.75 1.75 2.01 2.49 1.78 1.76 2.03
Vehicle Use 0.09 0.09 0.09 0.09 0.09 0.09 0.09 0.09
Total Consumption 94.93 59.4 61.6 73.6 88.3 61.6 63.4 75.7

Source Data: U.S. Energy Information Administration Data

Moving over to the supply side of the equation, the shale revolution has had a significant impact on the overall performance of Nat Gas prices as well as the volatility of this contract. The following chart from the most recent EIA Short Term Energy Outlook report (issued monthly) shows the steady growth in supply over the last several years.

Nat Gas production has steadily grown over the last several years adding a needed cushion to cover unscheduled issues as well as seasonal demand surges along with diversifying the supply profile in the US. The US is now less dependent on Nat Gas from the Gulf of Mexico (still a very important supply source) as all of the new production gains have been on-shore and out of harm’s way of hurricanes that often times find their way in the Gulf of Mexico and disrupt supply lines from that region. The projected supply growth should act to dampen any severe seasonal weather occurrences going forward.

That said, there is still a large variation in the inventory profile for Nat Gas. The following chart shows the normal seasonal movement in Nat Gas and how low inventories occurred after the severe winter of 2013/14.

Source Data: U.S. Energy Information Administration Historical Data

The recovery of inventories heading into the winter of 2014/15 should have a strong impact on price activity during the summer cooling season as well as during the upcoming winter heating season. Weekly inventory levels have demonstrated a quick and strong impact on price activity.

As an example, with inventories below normal in 2014 so far the market has been maintaining a modest and widening price risk premium compared to 2013. The premium has been averaged about $0.485/mmbtu above 2013 since the beginning of April into early June.

This premium is a risk premium of starting the winter heating season with a gap in inventories. The widening premium suggests that the market is starting to take a stand that the projected gap in inventories ahead of the upcoming winter is likely to be the dominant price driver in the near to medium term. The premium may gain momentum at this point in time as the industry seems less relaxed that the recent pattern of above normal injections over the last several weeks will continue throughout the season.

Nat Gas trading is very dependent on supply and demand fundamentals with the supply side of the equation resulting in the most significant change in the structure of the Nat Gas market since it was deregulated in 1990 (also when the NYMEX Nat Gas contract came in to existence).

If you have any questions send a message or contact me

Regards,
Peter Knight Advisor

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Refining 101 – Understanding Crack Spreads

Energy Educational Homepage

Relationships between Crude Oil, Heating Oil and Gasoline

Even though the US economy is still a gasoline driven economy, the HO crack spread has become more and more interesting from a trading perspective as the US is now a major exporter of distillate fuels – HO and diesel. Like the Brent/WTI spread, the HO crack spread is very liquid as well as volatile and trendy – all positives for the trading community at all levels. In addition this spread is also used by the refiners as a hedge during periods when refinery margins are expected to narrow.

It is also a spread that can be traded on the NYMEX division of CME as part of the regulated futures arena. Volumetric activity for the spread is continuing to grow, as is liquidity.

This is a very fundamentally driven spread (as are most spreads) with the same fundamentals driving the direction of the spread for many years. The main fundamental drivers of the spread are:

Winter month demand for heating oil in the US and in Europe.

Inventory levels of heating oil and diesel.

Throughout the year the growing demand for diesel fuel in many regions of the world that are now exports targets for US refiners.

The state of the gasoline market in the US.

Crude oil balances and geopolitics and the impact it has on refiner’s crude oil costs.

Other weather events like hurricanes.

Scheduled and unscheduled refinery interruptions.

First let’s quickly discuss what the HO crack spread is and is not. It is not an absolute measure of refinery margins in the US as the HO portion is a wholesale price in New York Harbor as traded on the NYMEX division of CME while the WTI crude oil is price is a spot prices based in Cushing, Oklahoma. It does not include any refinery costs or location adjustments. It is a gross representation of the direction of the distillate component of refinery margins against WTI crude oil – one of the many, many crude oils that the US refiners actually process in their refineries. Simply put, when the HO crack spread is trending higher it means refiners are making more money processing crude oil to make distillate fuel and when the spread is trending lower they are making less money.

With this in mind, the following chart shows the NYMEX HO crack spread plotted on a seasonal chart along with the latest five year average and the highs and lows that occurred when the calculations for the five year period performed.

Source: NYMEX ULSD Historical Data

This is what is categorized as an inter-market spread with reduced trading margins compared to trading the flat price for either of these commodities. This weekly chart clearly shows a modest level of volatility as well as the trending nature of this spread. It also shows the seasonality of the spread with the high points generally hit during the so called official winter heating season (October through March) with the lows generally occurring during the summer months or during the gasoline driving season.

Certainly during the heating season the direction of the spread is going to be primarily driven by the winter weather and thus heating demand for heating fuels in both the US and Europe. During the heating season oil will flow between these two regions depending on the weather and demand for heating oil in each of the respective areas.

In the US the majority of the heating oil consumed for space heating is in the Northeast with minimal quantities consumed in other regions of the US. Thus when evaluating the spread during the winter months, the weather along the northeast coast is important. Also keep in mind New York, which represents almost 1/3 of the Northeast heating oil market, now requires ultra-low sulfur fuel (15 PPM) as reported by the U.S. Energy Information.

The following chart compares the spot NYMEXHO Crack spread with the weekly HO inventories along the East Coast of the US – the primary HO market in the US.

Source: Chart provided by DTN

As shown on the chart, there is a relatively strong inverse correlation between HO inventory levels along the east coast with the performance of the HO crack spread. As HO inventories rise the crack narrows and when stocks decline the crack has a tendency to widen. As expected the strongest correlations tend to be during the so called official winter heating season.

In addition the temperatures forecasts for Europe are also very important. These forecasts do impact the short term direction of the spread and add to the volatility of the crack spread in the short to medium term.

Another area that has an impact on the HO crack spread is the supply and demand status of the gasoline market. Refiners have a lot of flexibility to maximize the production of gasoline at the expense of distillate fuel and vice versa. When gasoline demand is strong and/or supply is tight refiners will run in a maximum gasoline mode which will reduce the amount of distillate fuel produced. This could result in distillate fuel inventories declining and thus having a positive or upside impact on the HO crack spread.

In addition during periods of tightness in the crude oil markets caused by rising demand and/or supply issues due to natural events like hurricanes or geopolitical events like seen for many years in the Middle East and in North Africa the price of crude oil (the other half of the spread) could surge higher and have a negative impact on the HO crack spread even during periods when the relationships discussed above comparing inventories and the spread support a widening of the spread.

Finally, scheduled and unscheduled refinery events can impact the spread in either direction. When refineries are shut down for whatever reason it has an impact on production of distillate fuel (as well as all refined products) and often times result in a widening of the HO crack spread. On the other hand, when refinery runs are at high levels, more refined product is produced which could ultimately result in a narrowing of the crack spreads.

The following chart of the refinery run rates along the US East Coast (main heating oil market) versus the HO Crack spread demonstrate this relationship.

Source: Chart provided by DTN

The chart shows an inverse relationship between refinery run rates and the crack spread. Although this is not a perfect correlation it holds most of the time. When the refinery runs rates are increasing it generally has a negative impact on the HO crack spread and vice versa.

The above are the main price drivers of the spread.

If you have any questions send a message or contact me

Regards,
Peter Knight Advisor

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Energy Educational

1) General Information on Future and Futures Options

1.1) Futures  Educational Videos (60)
1.2) Futures Options Educational Videos (34)

3) Energy Futures & Options Videos

2.01)   Fundamentals and Energy Futures
2.02)   Discover WTI: A Global Benchmark
2.03)   Understanding Crude Oil in the United States
2.04)   Introduction to European Crude Oil
2.05)   Learn about Crude Oil Across Asia Region
2.06)   Crude Oil Futures versus ETFs
2.07   The Benefits of Liquidity
2.08)   Understanding the Oil Data Report
2.09)   A Look into the Refining Process
2.10) Learn about the 1:1 Crack Spread
2.11) The Importance of Cushing, Oklahoma
2.12) U.S. Resurgence in Global Crude Oil Production
2.13) Managing Risk in the Energy Market
2.14) Trading Insight for Options on Crude Oil and Natural Gas
2.15) Revisiting the WTI-Brent Crude Oil Spread
2.16) Introduction to Natural Gas
2.17) Understanding Supply and Demand: Natural Gas
2.18) Introduction to Natural Gas Seasonality
2.19) Understanding Natural Gas Risk Management Spreads
2.20) Understanding the Henry Hub
2.21) Natural Gas Calendar Spread Options
2.22) About Heating Oil Futures

4) Energy Futures & Options Reports

3.01)   Worldwide Oil – WTI / Brent Spread
3.02)   Refining 101 – Understanding Crack Spreads
3.03)   Natural Gas in a Producing Revolution
3.04)   Crude Oil and Its Refined Products
3.05)   Oil: How the Market Dynamics Have Changed
3.06)   Trading the Curve in Energies
3.07)   U.S. the Largest Crude Oil Producer
3.08)   Surging U.S. Domestic Crude Grades Market
3.09)   Are Crude Oil & Natural Gas Prices Linked?
3.10) WTI and the Changing Dynamics of Global Crude
3.11) Oil Traders Sell on the Rumor and Buy on the News
3.12) Veg Oil vs. Crude Oil: Tail Wagging the Dog?
3.13) Is Crude Oil Taking Cue from Vegetable Oils?

If you have any questions, contact me.

Peter Knight
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Worldwide Oil – WTI / Brent Spread

Energy Educational Homepage

Discovering Trading Opportunities with Two Benchmarks

The single most widely traded spread in the global oil complex is the WTI/Brent spread and the change in the relationships between these two global marker crude oils has implications to both crude oil and refined products on a global basis. It is also the most important spread in setting all of the various pricing interrelationships among the many different crude oil grades as well as for refined products inside and outside the US. Brent (North Sea crude oil) and WTI (US indigenous crude oil) are the industry’s two main benchmark crude oils which the majority all of the crude oils around the world are priced against.

This spread is not only traded heavily by the speculative community, it is also traded by the oil industry asset trading sector or those that actually are responsible for all of the physical crude oil acquisitions around the world. It is also a spread that can be traded on NYMEX as part of the regulated futures arena, as well as the cleared over the counter system on CME Direct. Volumetric activity for the spread is continuing to grow, as is liquidity with relatively narrow bid/offer ranges.

Although the spread does respond well to various technical analysis techniques, this is a very fundamentally driven spread with the same fundamentals driving the direction of the spread for many years. The main fundamental drivers of the spread are:

US crude oil production levels

Crude oil supply and demand balance in the US – i.e. crude oil inventory position in Cushing, PADD 2(mid-west) and PADD 3 (Gulf region)

North Sea crude oil operations

Geopolitical issues in the International crude oil market

There are other minor fundamental drivers but the aforementioned list of drivers is the focus of this paper. Understanding the aforementioned spread directional drivers may provide decent signals when trading this spread.

There has been a major transition that has taken place in the US and Canadian crude oil markets that has had a major impact on the direction of the spread since about 2008. The US crude oil revolution has resulted in a significant increase in US domestic crude oil production as a result of the successful technologies applied to the main shale oil regions of the US – i.e. Bakken, Permian, Eagle Ford, Niobrara, Haynesville and Marcellus. The drilling and production success in these regions coupled with a significant increase in the availability of Canadian crude oil for the US has significantly changed the dynamics of the US oil industry.

The US logistics system was designed and built as a south to north pipeline system. This system was designed around the large crude oil reserves and production level in the Gulf region (in particular Texas) of the US as well as the large volume of imported crude oil that entered to the US to supplement US indigenous production for the main refinery centers in the Gulf and PADD 2 region (mid-west). The west coast has mostly consumed California and Alaskan crude oil and supplemented by imports while the east coast refining system has been dependent on offshore imports.

With a significant increase in US domestic crude oil production and a surge in Canadian imports the south to north logistics system created a huge bottleneck in the Cushing area (also the delivery location for the NYMEX WTI contract). Cushing stocks built strongly as the intake capacity to Cushing far exceed the takeaway pipeline capacity. This resulted in a huge overhang of crude oil and thus had a very depressing impact on the price of WTI, especially relative to Brent.

Over the last two years the mid-stream industry has done a fantastic job in increasing the crude oil takeaway capacity out of Cushing by building new pipelines and reversing several south-to-north pipelines that were no longer needed. In addition rails deliveries of crude oil from Canada and North Dakota have also played a large role in adjusting the logistics system to accommodate the oil shale revolution taking place.

Cushing stocks are now back down to the level they were at prior to the onset of the surge in crude oil supplies from the US and Canada. In fact Cushing is now a transition area feeding both the PADD 2 and PADD 3 regions. Crude oil coming into Cushing supplies a combination of PADD 2 refineries that are connected to Cushing via pipeline as well as sending crude oil down to the Gulf Coast refineries. There should not be a large build up in crude oil in the Cushing region unless the market moves into a strong contango and economics justify building crude oil facilities. Inventory levels in Cushing will find a normal operating level needed by the PADD 2 refiners.

In regard to the main drivers, US crude oil production and imports from Canada are projected to continue and grow well into the future. This trend will support the main changes that have taken place in the logistics system and most importantly in the crude oil acquisition pattern for the US refining system which brings me to the main directional driver… Cushing crude oil stocks.

The following chart shows the relatively strong correlation between inventory levels in Cushing and the WTI/Brent spread. This is a weekly chart to coincide with the weekly release of EIA Cushing inventory data.

Source: Charts provided by DTN

In spite of the major transition that has taken place in the slate of crude oil for the US refining system as well as the in the logistics system the correlation between the direction of Cushing inventories and the spread remain solidly in place.

Over the last several years as the logistics have changed the relationship between PADD 3 (Gulf region) crude oil stocks are also starting to be a reasonably correlated directional driver of the WTI/Brent spread as shown in the following chart.

Source: Charts provided by DTN

With Cushing crude oil stocks now back to the pre-surplus normal operating range level and with Cushing acting more as a transition areas between PADD 2 and PADD 3 the relationship of PADD 3 inventories are also now driving the spread.

On the other end of the spread (Brent side) the two main general areas that have an impact on the spread is production levels of crude oil from the North Sea. From time to time severe weather impacts the flow of crude oil out of the North Sea. During periods of time when flow is impeded it has a tendency of strengthening the Brent side of the spread irrespective of what is going on in the US. In addition when there are geopolitical interruptions in the flow of crude oil from various locations (i.e. Libya, Nigeria, Middle East, etc.) it has a stronger impact (generally upside) on the Brent side of the spread and has a tendency to offset any bearish spread signals coming from the US side of the spread.

There are three sources of inventory data that are released at different times of the week. Genscape reports Cushing crude oil stocks at 9 AM on Monday. This is a subscription service. The subscribers of this report certainly set their positions in the WTI/Brent spread if a signal presents itself. The API issues its Cushing inventory data late on Tuesday afternoons – also for a subscription fee. However, this data tends to be broadcast via several news services and on Twitter. Finally the most comprehensive and free inventory data is released mid-morning on Wednesday by the EIA. All of these data sources are in close agreement for Cushing crude oil inventories. Finally the inventory data points are always as of the previous Friday.

The above are the main price drivers of the spread.

This spread has a high level of liquidity to allow for relatively easy entry and exit as well as a high level of volatility. Furthermore as you can see from the charts presented in the paper the spread tends to trend for extended periods of time allowing for many entry and exit points during the course of a trend.

Ff you have any questions send a message or contact me

Regards,
Peter Knight Advisor

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What is an Index Future?

Stock Index Education Home Page

Overview

Equity Index futures are “futures contracts” on equity indices. They are cash settled contracts and the majority have quarterly expiration dates scheduled for the months of March, June, September, and December.

Equity Index futures provide market participants with tools to efficiently hedge or express an opinion on an equity index market, practically 24 hours a day, 6 days a week.

Benchmarks: The Backbone of Equity Index Futures

CME Group focuses on many of the widely followed and globally recognized equity index benchmarks. CME Group Equity Index products include both equity index futures and options on equity index futures. Currently, this represents 59 equity index futures and 29 equity index options. CME Group Equity Index products include a number of well-known indices.

Some of these are available in a variety of different sizes to accommodate different trading needs. For example, we offer  E-mini S&P 500® futures contracts, which are one-fifth the size of standard S&P 500®futures.

Spanning the globe, our Equity Index suite includes US dollar-based products such as the S&P 500®, the Nasdaq 100, and the Dow Jones Industrial Average as well as products covering other key markets, such as the FTSE Russell 100, a UK-based index; the Nikkei 225, a Japanese-based index; and the FTSE China 50, a China-based index.

As the world’s largest derivatives exchange, CME Group offers equity traders a deep and liquid marketplace to speculate or hedge their portfolio. What does all this mean? In short, CME Group offers a variety of Equity Index products suitable for many types of end users.

 

 

What are Bollinger Bands & How To Set Them

1) To set a Bollinger Band open this chart pageX
 X
2) Choose Add Technical Study
x
x

x
3) Choose Bollinger Band
x

x
4) To set your Bands, click on the default parameter
xx

x
5) The menu will open set your period and width
x

6) About Bollinger Bands

Bollinger Bands are a technical trading tool created by John Bollinger in the early 1980s. They arose from the need for adaptive trading bands and the observation that volatility was dynamic, not static as was widely believed at the time.

​Bollinger Bands can be applied in all the financial markets including equities, forex, commodities, and futures. Bollinger Bands can be used in most time frames, from very short-term periods, to hourly, daily, weekly or monthly.

Bollinger Bands answer a question: Are prices high or low on a relative basis? By definition price is high at the upper band and price is low at the lower band. That bit of information is incredibly valuable. It is even more powerful if combined with other tools such as other indicators for confirmation. Learn  how to use this powerful tool in the Bollinger Band Knowledge section

John Bollinger  “What are Bollinger Bands?”

Bollinger Bands are a technical analysis tool, specifically they are a type of trading band or envelope. Trading bands and envelopes serve the same purpose, they provide relative definitions of high and low that can be used to create rigorous trading approaches, in pattern recognition, and for much more. Bands are usually thought of as employing a measure of central tendency as a base such as a moving average, whereas envelopes encompass the price structure without a clearly defined central focus, perhaps by reference to highs and lows, or via cyclic analysis. We’ll use the term trading bands to refer to any set of curves that market technicians use to define high or low on a relative basis.

The earliest example of trading bands that I have been able to uncover comes from Wilfrid Ledoux in 1960. He used curves connecting the monthly highs and lows of the Dow Jones Industrial Average as a long-term market-timing tool. After Ledoux the exact sequence of trading band development gets foggy. In 1960 Chester Keltner proposed a trading system, The 10-Day Moving Average Rule, which later became Keltner bands in the hands of market technicians whose names we do not know. Next comes the work of J. M. Hurst who used cycles to draw envelopes around the price structure. Hurst’s work was so elegant that it became a sort of grail with many trying to replicate it, but few succeeding. In the early ’70s percentage bands became very popular, though we have no idea who created them. They were simply a moving average shifted up and down by a user-specified percent. Percentage bands had the decided advantage of being easy to deploy by hand. At any given time a 7% band consists of a base moving average, an upper curve at 107% of the base and a lower curve at 93% of the base. (Arthur Merrill suggested multiply and dividing by one plus the desired percentage.) When I started using trading bands percentage bands were the most popular bands by far. Along the way we got another fine example of envelopes, Donchian bands, which consist of the highest high and lowest low of the immediately prior n-days. Those are the main types of band/envelopes that I know of. Over the years there have been many variations on those ideas, some of which are still in use. Today the most popular approaches to trading bands are Donchian, Keltner, Percentage and, of course, Bollinger Bands.

Percentage bands are fixed, they do not adapt to changing market conditions; Donchian bands use recent highs and lows and Keltner bands use Average True Range as adaptive mechanisms. Bollinger Bands use standard deviation to adapt to changing market conditions and thereby hangs a tale. When I became active in the markets on a full time basis in 1980 I was mainly interested in options and technical analysis. Information on both was hard to obtain in those days but I persisted; with the help of an early microcomputer I was able to make some progress. At the time we used percentage bands and compared price action within the bands to the action of supply/demand tools like David Bostian’s Intraday Intensity. A touch of the upper band by price that was not confirmed by strength in the oscillator was a sell setup and a similarly unconfirmed tag of the lower band was a buy setup. The problem with that approach was that percentage bands needed to be adjusted over time to keep them germane to the price structure and the adjustment process let emotions into the analytical process. If you were bullish, you had a natural tendency to draw the bands so they presented a bullish picture, if you were bearish the natural result was a picture with a bearish bias. This was clearly a problem. We tried reset rules like lookbacks with some success, but what we really needed was an adaptive mechanism. I was trading options at the time and had built some volatility models in an early spreadsheet program called SuperCalc. One day I copied a volatility formula down a column of data and noticed that volatility was changing over time. Seeing that, I wondered if volatility couldn’t be used to set the width of trading bands. That idea may seem obvious now, but at the time it was a leap of faith. At that time volatility was thought to be a static quantity, a property of a security, and that if it changed at all, it did so only in a very long-term sense, over the life of a company for example. Today we know the volatility is a dynamic quantity, indeed very dynamic.

After some experimentation I settled on the formulation we know today, an n period moving average with bands drawn above and below at intervals determined by a multiple of standard deviation (We use the population calculation for standard deviation). The defaults today are the same as they were 35 years ago, 20 periods for the moving average with the bands set at plus and minus two standard deviations of the same data used for the average. But they weren’t “Bollinger Bands” yet, that would come later when Bill Griffeth, an on-air host for the Financial News Network, asked me what I called my bands on air. I had presented a chart showing an unconfirmed tag of my upper band and explained that the first down day would generate a sell signal. Bill then asked me what I called those lines around the price structure, a question that I was totally unprepared for, so I blurted out the alliteratively obvious choice: “Bollinger Bands.”

So what are Bollinger Bands? They are curves drawn in and around the price structure usually consisting of a moving average (the middle band), an upper band, and a lower band that answer the question as to whether prices are high or low on a relative basis. Bollinger Bands work best when the middle band is chosen to reflect the intermediate-term trend, so that trend information is combined with relative price level data.

Soon the Bollinger Bands had company, I created %b, an indicator that depicted where price was in relation to the bands, and then I added BandWidth to depict how wide the bands were as a function of the middle band. For many years that was the state of the art: Bollinger Bands, %b and BandWidth. Here are a couple of practical examples of the usage of Bollinger Bands and the classic Bollinger Band tools along with a volume indicator, Intraday Intensity:

Bollinger Band Website

If you have questions send us a message or schedule an online review .

Regards,
Peter Knight Advisor

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Definition of a Futures Contract

Futures Education Homepage

What is a Futures Contract?

Forward and futures contracts are financial instruments that allow market participants to offset or assume the risk of a price change of an asset over time.

A futures contract is distinct from a forward contract in two important ways: first, a futures contract is a legally binding agreement to buy or sell a standardized asset on a specific date or during a specific month. Second, this transaction is facilitated through a futures exchange.

The fact that futures contracts are standardized and exchange-traded makes these instruments indispensable to commodity producers, consumers, traders and investors.

A Standardized Contract

An exchange-traded futures contract specifies the quality, quantity, physical delivery time and location for the given product. This product can be an agricultural commodity, such as 5,000 bushels of corn to be delivered in the month of March, or it can be financial asset, such as the U.S. dollar value of 62,500 pounds in the month of December.

The specifications of the contract are identical for all participants. This characteristic of futures contracts allows buyer or seller to easily transfer contract ownership to another party by way of a trade. Given the standardization of the contract specifications, the only contract variable is price. Price is discovered by bidding and offering, also known as quoting, until a match, or trade, occurs.

Futures contracts are products created by regulated exchanges. Therefore, the exchange is responsible for standardizing the specifications of each contract.

Exchange-Traded

The exchange also guarantees that the contract will be honored, eliminating counterparty risk. Every exchange-traded futures contract is centrally cleared. This means that when a futures contract is bought or sold, the exchange becomes the buyer to every seller and the seller to every buyer. This greatly reduces the credit risk associated with the default of a single buyer or seller.

The exchange thereby eliminates counterparty risk and, unlike a forward contract market, provides anonymity to futures market participants.

By bringing confident buyers and sellers together on the same trading platform, the exchange enables participants to enter and exit the market with ease, makings futures markets highly liquid and optimal for price discovery.

If you have questions send a message or  schedule an online review.

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Support and Resistance

Futures Education Homepage

Support and Resistance are common terms that traders use to describe levels where price is more likely to stop moving in one direction or change direction.

Support refers to levels where price might reverse and move higher or a level that slows the momentum of price moving down. Resistance refers to levels where price might reverse and move lower or a level that slows the momentum of price moving up. Support or resistance is determined by whether price is above or below the level identified by the trader.

Generally, a trader can think of support being levels below price whereas resistance is formed above price. Levels of support and resistance can be formed in a few different ways. Moving averages, previous highs and lows, key price levels, and trend lines are the main indicators that traders use to find levels of support and resistance.

Moving Averages 

Traders will use moving averages of various lengths to indicate levels of support and resistance. Moving averages below price will form levels of support and moving averages above price will create levels of resistance.

Traders can add more than one length moving average to visualize initial and deeper levels of support and resistance. For example, a trader might add the 21, 100 and 200 period exponentially moving averages to their charts.

Typically, the shorter the length of the moving average, the weaker the support or resistance it creates. This means, for example, price will move through a 9-period moving average on a 5min chart more often than a 100-period moving average. The 100-period moving average is considered to provide stronger support for price when compared to the 9-period moving average. Traders can use any moving average that they like, some common lengths are the 9, 21, 50, 100 and 200 period moving averages.

Traders might use the 100-period moving average on a daily chart to indicate stronger and longer term levels of support and resistance. Price may only move this far every few months.

As price moves to areas that a trader believes is support or resistance, moving averages will be used to pinpoint areas that price could move through or bounce of off. For example, if price is moving up then retraces to the 55-period moving average, then starts to move back up, there is a good chance that the level will hold as support, and price will start to move in the direction of the original trend again.

If price moves to the moving average and does not bounce, there is a good chance that it will move to lower levels of support. If price is already at lower levels of support such as the 200-period moving average, then it could be an indication of a longer-term change in trend. It could indicate that price is moving from an uptrend to a down trend and vice versa.

Previous Highs and Lows

Technical analysts believe that price has a memory and that trends will repeat. There are certain price levels where traders will act a certain way. For example, traders might decide that Crude Oil is a strong buy at $50 after a retracement from higher levels, or that the S&P 500 is a strong buy at 2000. This is what creates tops and bottoms in the market.

If there is enough interest a key level, when the market gets back to that level traders seem to behave in a similar fashion over time. Because of this market tendency, technical analysts may look at where a market made previous highs and lows and use these levels as support and resistance. Markets will tend to pause at previous highs and lows. For example, if a market is moving up it will tend to encounter resistance at a previous high. If a market is moving down it will generally find support at previous lows.

If price breaks through support, then it will generally continue in that direction.

When price breaks through support or resistance, these levels will reverse, support will become resistance and resistance will become support. For example, if price breaks through support then that level of support will become resistance when price moves back up. The same will occur if price moves through resistance, the previous level of resistance will tend to become support when price moves back down.

Price Levels

Support and resistance can also be observed at certain price levels. For example, specific prices will create levels where price will find support or resistance because this is where there is potentially increased interest in trading that particular market. For example, the daily chart of CL shows how over a few years the $100 level in crude could not be successfully broken by more than a few dollars, and each time it attempted to break out, price retraced.

Trend Lines

Trend lines act like moving averages, except they are based on the highs and lows that price makes. In this example, this daily chart of the ES shows how a trend line can act as support.

In a market that is moving up, a trend line would be drawn through a series of lows in price. This creates an upward sloping line. The theory is this line can be extended past current price and will support price as it moves back down towards the trend line.

A trader can also draw a line through the series of highs that the same market has made creating a channel, where price will in theory stay contained.

The same lines can be drawn for markets that are in a down trend.

Levels of support and resistance offer traders insights in to areas where price might stop trending and retrace or where retracements might stop, and price will begin to move in the direction of the original trend. Traders should be aware that support and resistance will not always hold to the penny, rather they are zones that can be identified in a market which might be favorable for traders to enter or exit a trade. Support and resistance levels offer another piece of information that can be included in a trader’s assessment of the market.

If you have questions send us a message or schedule an online review.

Regards,
Peter Knight Advisor

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Understanding Moving Averages

Futures Education Homepage

Exponential Moving Average (Red Line)
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1) To Set a Exponential Moving Average open this chart  (or 6-9 to calculate)
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2) Choose Add Technical Study
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3) Choose Moving Average Exponential
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4) Click on the default parameter
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5) Set the desired number of days
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6) About Moving Averages

Moving averages are a common way for technical traders to begin the process of price analysis. It is often one of the first indicators that traders will add to their charts and will serve as a measure on its own or in comparison with other indicators.

A moving average is the average price of a futures contract or stock over a set period of time. Traders can add just one moving average or have many different time frames on one chart.

For example, a 14-day moving average of CL WTI futures would be the average closing price of the CL contract over the last 14 days.

7) Calculating Moving Average

There are a number of ways to mathematically calculate the average of a set of numbers. Each method will come up with a slightly different result and place emphasis on a certain section of the data being calculated.

Two common moving average calculations are simple moving averages and exponential moving averages. These moving averages will appear on a chart as a line above or below price. Traders might have multiple moving averages on their charts at one time and use different lines to represent different actions you might take with your trades

8) Simple Moving Average

A simple moving average, the most basic of moving averages, is calculated by summing up the closing prices of the last x days and dividing by the number of days.

For example, if WTI (CL) contract closed at $45.50, $45.25 and $46.10 over the last three days the moving average would be calculated as follows:

Sum of closing prices = 45.50 + 45.25 + 46.10 = 136.85
Simple moving average = sum of closing prices divided by number of days
                    = 136.85 / 3
                                       = $45.62

9) Exponential Moving Averages

Exponential moving averages assign more influence on recent numbers and less on old data because of a weighting variable in the calculation. This makes them more responsive to changes in price and also acts in smoothing out the line.

Exponential moving averages calculate the average of a series of numbers using a weighting multiplier that typically assigns more weight to later data. EMAs can be calculated in three steps.

1. Determine the SMA or use yesterday’s closing price to begin

2. Calculate the multiplier

3. Using price, the multiplier (time period) and the previous EMA value.

Here is the calculation for a 14-day EMA

1. SMA = $46.60, Closing price today is $46.75
2. Multiplier = 2 / (1 + n) = 2 / ( 1 + 14) = 0.133
3. Calculate the EMA = (Price today x Multiplier) + (EMA yesterday x ( 1 – multiplier)
            EMA = (46.75 x 0.133) + (46.60 x 0.867)
            EMA = $46.63

Note the first day of the EMA calculation can either start with yesterday’s closing price or the SMA from yesterday. You just need to pick a starting value for the EMA calculation.

As with simple moving averages, no calculation is needed on your part, the moving average indicator will calculate this for you and show the results as a line on your chart.

While there are other more complicated moving average calculations beyond EMA and SMA, these two are the most common. Other moving averages are basically an EMA that assigns different weighting and smoothing variables to the calculations.

10) Using Moving Averages

Moving averages are often used to compare where the current price of the underlying instrument is in relation to support and resistance on a chart. When price moves down to a moving average line or up to a moving average line, traders can use this as a signal that price might stop or retrace at that point.

For example, if price moved down to the 200EMA a trader might think that price might stop moving down from there as the 200 EMA will act as support for price to move back up.

Traders can also visualize short-term and long-term support and resistance on a chart by adding moving average lines of different time periods.

For example, a trader could use the 13EMA as a short-term indicator and the 200 EMA as a longer-term indicator on the same chart. The larger the EMA, the stronger the support and resistance and the more likely the price will change direction as it moves towards that EMA.

Of particular interest for traders can be when moving averages cross over, as these crossovers usually represent a shift in price. Crossovers, which occur when one moving average line crosses another moving average line, is used to signal bullish and bearish signals.

Short-term moving averages crossing above longer-term moving averages is generally seen as bullish and long-term moving averages crossing below shot-term moving averages is generally seen as bearish.

For example, if a trader sees that the 50 EMA is crossing above the 200 EMA this is generally a sign that price might continue to move up. A trader using moving averages as a signal to enter trades might purchase contracts, or add to a position because of this crossover signal.

Moving averages are simple yet powerful tools that traders can use to help visualize where price has been and where price might be moving next.

If you have questions send us a message or schedule an online review.

Regards,
Peter Knight Advisor

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