The ongoing trade wars and tariffs between the United States and the rest of the world, particularly China, the EU, Canada and Mexico, has caused a lot of uncertainty on the stock, bond, and crypto markets.
Investors have been scrambling to find some semblance of stability amid an exceedingly reactive financial market, at least until the tariffs reach the desired point.
How can investors take advantage of such market turbulence and what strategies stand the best chance of effectively hedging against downward risk? – In order to answer this question, it is important to first understand that traditional long-term investing is unlikely to make the most of current volatility. Short-term strategies that demand proactive trading are much more effective at profiting from a volatile market, as certain types of instruments, such as leveraged ETFs and VIX futures, have proven to be the most effective tools at traders’ disposal.
Benefiting from volatility using grid trading
One of the most popular methods of taking advantage of volatility spikes on the market is grid trading strategy. Grid trading is a quantitative trading strategy that involves placing buy and sell orders at predefined intervals above and below a set price, without predicting market direction. The intervals resemble grids and the strategy seeks to capitalize on market volatility by profiting from small price movements within a range.
Grid trading was developed in the 2000s and gained popularity during the rise of retail forex trading around the world. The strategy is also easily automated, which adds to the appeal.
How grid trading works
Over the years, traders have designed several trading strategies that are specifically geared towards volatility trading, removing the focus from upward and downward movements, targeting sideways markets.
To understand how grid trading works, we can look at the steps involved in the strategy one by one:
- The trader sets up a grid of orders – buy orders below the current market price and sell orders above it
- When the price drops, a buy order is triggered
- When the price rises again, the corresponding sell order is executed at a profit
- The trader repeats the cycle across multiple levels
It is also worth considering the inherent risks associated with grid trading, as the strategy can underperform or lose capital in strong trending markets unless paired with stop-losses or trend filters.
Furthermore, capital requirements can quickly add up, especially if the market moves far from the entry point without retracing.
Grid trading strategies benefit from rising volatility in several ways, for example:
- Volatility increases the frequency at which price hits the grid levels, creating more opportunities to buy low and sell high
- Grid trading does not require directional prediction, which makes it especially effective in choppy or sideways markets, which are common during periods of high volatility
- Traders can automate grid trading strategies using bots, making the strategy efficient and emotionless
Overall, grid trading can be an effective way to take advantage of volatility spikes in choppy markets, although it comes with certain risk considerations.
Trading VIX and leveraged ETFs
For stock traders, the VIX, or Volatility Index, is a real-time market index that measures the market’s expectations for volatility over the next 30 days. The VIX is derived from the prices of S&P 500 index options.
When the VIX is high, it signals investor fear and anticipated market turbulence. When the VIX is low, it suggests complacency.
Several ETFs and ETNs allow stock traders to speculate on the VIX, as they are designed to track futures contracts on the VIX. Such ETFs include the ProShares VIX Short-Term Futures (VIXY), and the iPath Series B S&P 500 VIX Short-Term Futures ETN (VXX), which can be used effectively to trade changes in volatility on the S&P 500, which is the most followed stock index in the world.
Traders can use the VIX in several ways to benefit from rising volatility:
- To hedge long equity positions during market stress. For example, when stocks fall, the VIX often spikes – Offsetting stock portfolio losses
- Macro events, such as Fed announcements and geopolitical events can also cause volatility surges, which directly affect the performance of the VIX
- VIX ETFs are often negatively correlated with equities, which makes them a great tool for balancing risk
However, similarly to grid trading, VIX trading also comes with some inherent risks, such as the time decay of future roll costs, which means that VIX ETFs lose value over time if volatility does not spike. Furthermore, VIX ETFs are short-term instruments and investing in them for the long-term is not advisable.
Options trading
Another alternative for taking advantage of market volatility is by trading options. For example, buying call options after major declines and vice versa, can boost overall returns.
However, it is important to note that options are complex derivatives and beginners are not advised to use options for speculation.
On the other hand, hedging against an existing portfolio with options can be fruitful, as the returns generated by options are amplified as opposed to spot positions.
Options are also cost-effective when it comes to hedging strategies, as their returns are typically much higher than direct investments.
Theta decay and the Greeks can pose significant risk for options, especially if the trades do not pan out as planned, which demands in-depth knowledge of the markets from traders who would like to speculate the markets using options.
Conclusion
Periods of high market turbulence can provide many opportunities for traders to speculate and lock in short-term gains.
One such method is by using a grid trading strategy, which benefits from sideways price action, as opposed to upward or downward momentum.
Trading the Volatility Index, or VIX, is another common method for traders to take advantage of sudden rises in uncertainty on the market. Options trading also falls under this category.
However, it is also worth considering that VIX and options are characterized by time decay, which makes them suitable solely for short-term speculation, as opposed to long-term investment.
This post was published on May 7, 2025 6:15 pm