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What were the effects from the massive rise in Q4 2008 Volatility in  on static algorithmic systems, particularly completely automated systems? 

Wouldn't it be cool if you had an electron microscope that you could focus on the markets and view in real-time, or historically, what a reversal looked like at the atomic or sub-atomic level?

We all see these reversals and wonder...."What happened in there?".

Gosh, we put 'em up on a 1 minute chart (or 1 second or 1 tick...choose your fancy), stare at the market turn and say either, "Where did I go wrong?" or if you caught it correctly, "Aren't I so smart?".
 
With this extended post we are going to attempt to document our understanding of how a 'run-of-the-mill', pedantic, everyday, healthy, easy to trade, profitable reversal looks like under a custom-crafted electron microscope built for the electronic markets....basically, the heart and soul and guts of TLA (Transaction Level Analysis).

(For a feel of how much data gets processed with these tool sets check out -  http://www.transactionlevelanalysis.com/2008/04/why-tape-reading-matters.html )

A technician  mapping the S&P 500 market would probably conclude that we have begun a new down leg.

The best way to profit from this would be to find entries to go short.  Your choices are to either sell into the down-drafts or to sell new highs.   Both approaches can be very profitable and also quite risky.

How to Use TLA to Minimize Risk

Selling into the down-draft

In the example below, using a TLA algorithm, such as MacDaddy, when price is approaching a recent low, as long as MacDaddy, which is measuring the strength of the Program Buying and the Program Selling, is strong to the downside, a trader can enter into the direction of the  market. 

Depending on the makeup of the trader, their time horizon, internal Technical Analysis, Risk Tolerance and Money Management rules, they can exit before, at or after the identified low.

Selling the High

For longer trades, a trader will need to sell a high and then ride the down-draft.

Here, MacDaddy, is also handy.  The easiest way to apply MacDaddy, is track new highs and when MacDaddy diminishes in strength with the new highs, or is negative at a new high, a trader is safe to enter short with a stop just above the recent high.

Happy Trading.