Choosing a Bar Length or Trading Interval

Cynthia A. Kase

In discussing the importance of time interval or duration in trading, we will examine six major areas:

1. Is it practical to trade intraday, that is, using less than daily bars?

2. What is the relationship between bar length and the length of the trading day?

3. What is the importance of risk in choosing bar length?

4. Does the quality of the market (trending vs. choppy) impact the choice of length?

5. Which is best, trading bars based on time, or based on volume?

6. Why and how should investors trade using multiple time frames?

Price charts were produced using TradeStation®. TradeStation® is a registered trademark of Omega Research, Inc.

Intraday or Not?

Trading intraday means that the bars we are using are less than one day in length (e.g., an hourly bar). Trading intraday bars is not the same as day trading; in day trading you look at tick charts to open and close a position within one day.

The term "tick" has several meanings. Formally, a tick is considered by an exchange as the minimum allowable price change. A tick can also mean a transaction or price change as broadcast by a data vendor. Some data vendors broadcast each and every transaction, such as S&P Comstock. Other data vendors broadcast prices as they change, such as DBC Signal. Thus, if we are to count the number of ticks in a given day, we would most likely get a slightly higher number from an S&P Comstock datafeed, than from DBC Signal. When evaluating tick volume, you should keep in mind the number of ticks broadcast by your data vendor in a given day. In wheat, if

three transactions took place, $300.2, $300.4, and $300.4, we would get a tick volume count of three from S&P Comstock and two from Signal.

Unlike the equities market, commodity volume is not broadcast during the trading day and thus cannot be employed as a trading tool. Thus, as a proxy, we use tick volume.

A certain number of transactions are necessary to provide the liquidity necessary to trade an intraday bar. We must decide how comfortable we are with the corresponding lag time in getting filled and with the uncertainty of waiting to fill an order. Certainly, a market that trades, for example, only four times an hour will have very high bid offer spreads and may pose an unacceptable risk to the trader. Our guideline for a market that is liquid enough to trade is a minimum of one transaction every two minutes.

For this section of the chapter, we will focus on March 1997 Wheat. The contract opens at 9:30 a.m. central time and closes at 1:15 p.m. Thus, we have a 225-minute day. If we look for a trade at least every 2 minutes, we need a market that trades a little over 110 times a day. We would prefer to see, of course, a trade each minute or better or 225 trades or more per day.

Figure 12.1 is a daily chart of March 1997 Wheat. The bottom curve is a 5-day moving average of tick volume. Since the moving average is above 225, this market is liquid enough for us to trade on an intraday basis. The following formula can be used for evaluating the average tick volume indicator. The first line produces a time series

Figure 12.1 daily bars of WH7 and a Figure 12.2 Daily bars of WZ7 and a

MOVING AVERAGE OF TICK VOLUME. MOVING AVERAGE OF TICK VOLUME.

Produced using TradeStation, a registered trademark of Omega Research Inc. Used by permission.

X that adds the number of upticks and downticks for each bar. The next line takes a simple moving average of X, five samples at a time:

X - upticks + downticks

Y = average (X, 5)

plot 1 (Y, "average tick volume")

Now moving forward to the December 1997 Wheat chart, (Figure 12.2) we see an average over a 5-day period of roughly 12 ticks, not enough for us to bother to trade with intraday trading. Consequently, we relied primarily on daily bars.

Bar Length and Trading Day

When setting up time bars longer than the nominal 15 minutes, it is important to take into consideration the number of minutes in a day. For example, in natural gas we have 310 minutes during the normal day session. This means that if we set up our charts with an hourly bar, we will end up with a 10-minute bar at the end of the day. Similarly, if we look back at the March Wheat chart and set an hourly chart for this market (which trades for 3% hours), we will end up with a 45-minute bar at the end of each day.

Referring to Figures 12.3 and 12.4, we see on the left a 30-minute chart and on the right a 25-minute chart. The 25-minute chart has nine evenly spaced bars, each with exactly 25 minutes. The 30-minute chart has nine bars, the last of which is a 15-minute bar. Certainly, if we treat the 15-minute bar just like a 30-minute bar, we would be effectively weighting it by a factor of 2. We may do this; however, the trader

Figure 12.3 The 30-minute bars. They produce a 15-minute interval at the end of each trading day.

Figure 12.4 The 20-minute bars. They divide each day

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