Thoughts From the Forex Trenches
In this Issue:
What is behind the Weak Dollar?
Creating a Trading System
What is Behind
the Weak Dollar?
Ask how much of dollar weakness is due to fundamentals and
how much is due to intervention/excess reserves buildup/diversification.
You can say if emerging market currencies especially Asia, were allowed to free
float upwards, there would be no intervention, no build up of excess reserves,
less diversification and less upward pressure on other currencies, such as the
euro, aud, etc.
Instead, we have the Bernanke led Fed pumping money like a waterfall into an
economy that lacks loan demand and the money finds its
way into stocks, commodities, and out of the dollar, etc. My fear is an ugly
end to this saga and hope I am wrong. Bernanke seems pretty sure he can exit
So we are in a cycle where it is hard to see the end until something forces
someone or the collective markets to say enough. It would probably take a
meltdown in the US Treasury market for the Fed to pay notice. Up until now, it
has had a free ride with equities rising, bonds behaving and the dollar bearing
the brunt of the US
loose fiscal and monetary policy mix in an environment of benign neglect. The
test for US
bonds may come when QE2 ends and the Fed is no longer
depressing yields through bond purchases.
Otherwise, there seems no reason to fight it for now. Maybe eur/usd 1.50 and/or aud 1.10 see a
pause or maybe these turn out to be acceleration points. In any case, these
pivotal levels have a magnetic pull and only back below 1.48 and/or 1.08 would
postpone the risk. In any case, keep an eye on emerging market currencies (and
oil producers) as this is where diversification pressures on the dollar are
Jay Meisler is an
author co-founder of Global-View.com, the leading forex discussion site for
more than a decade and home of the original forex forum,
where traders from around the globe come for the latest breaking news, flows,
rumors and trading ideas, and the Retail Forex Traders Association. Jay has
worked as a chief forex dealer at a U.S. bank branch, fund manager and
independent trader. Jay has an MBA from Columbia
University and a B.A. from Queens College.
2. Straight Talk:
Create a Trading
a trading system from scratch can be very costly and time consuming and complicated. With this in mind a K.I.S.S.
approach has both merit and appeal as we all lack the required skill set of
sufficient capital, time and programming capabilities.
is required is a good eye to recognize that certain patterns repeat themselves
in a fractal style. If one can identify
a pattern it becomes relatively easy to create a set of rules that follow the
basic principles of ‘If this then do that’. The next stage is to apply some form of
filter which in reality just becomes another ‘If’ statement.
basic system has at its core a setup then a trigger then an expected
result. In other words one wants to
identify the pattern then set the rule that creates the order entry and then
have an exit strategy either to close out the trade profitably or to limit the
words of one syllable this is represented by Selection – Timing – Management.
has to be one acid test to any system and that is a question? Is the system consistently profitable? Anything that is returning a positive result
three times out of five is a positive return.
By the same token if it is not consistently profitable then rather than
discard the system which many will do then instead turn the rule of the order
entry upside down. IE: do the opposite
and then as if by magic the system will suddenly appear to be profitable.
is an example of something that was first identified by Henry Wheeler Chase in
the 1930s. Curt Kessler subsequently acquired all of Chasse’s papers.. Later on Kessler and Larry Williams were partners and so
the identification of ringed highs and ringed lows was quantified into a
This identification of a pattern is the setup or selection.
setup is the break of rotation of a series of higher lows and higher highs (or
lower highs and lower lows) where the break stops the natural advancement of
price. This then creates either two way
risk as opposed to the previous one time directional advancement or else it
creates a reversal. Either way it
matters not to the system.
entry or the trigger can be the
absolute break of the low of the high bar (high of the low bar) or it could be
the close of the bar that ends below the low of the high bar (above the high of
the low bar). Again either way it matters little to the system but may have a
marginal impact on total return.
The timing of the entry may be a factor for
some but one must remember that the point of systematic trading is to be
objective not subjective and to be without emotion and to be disciplined. The concept should be fruition or stop. The concept is to always take the next trade
and keep doing it until it no longer works.
The management of the trade is paramount in
terms of managing the initial entry and setting a stop loss. The stop is always initially placed just
outside the opposite side of the setup bar but one could use a variation of the
open and/or close of the setup bar or even the trigger bar together with timing
techniques to create a tighter stop.
Once the trade starts to work then various risk and money management
techniques can be applied to achieve the result.
Techniques that involve measured moves, trailing profit stops or partial take
profits from a multiple initial position size which may appeal to those that
want to effectively pay for the stop in advance.
could be added to aid with the decision process of entry. EG:
use a 10 period moving average where the trigger bar must close through the
average before the order entry is elected.
This will create less entries but may
occasionally help avoid a whiplash.
terms of what are the ideal timeframes to apply this system to then the answer
is any timeframe but establish that with the lower timeframes not only will
there be a higher frequency of transaction but the expected result must be
tempered to suit the market conditions.
Alex is a 35 year veteran of the financial
markets and has worked in every aspect of the business from market maker to
portfolio fund manager and broker to individual trader. Alex is a trader who
additionally runs a financial portal website dedicated to
helping train and educate traders and can be found at TradingClinic – http://tradingclinic.com and is a
regular contributor to GVI.
Alex can be contacted under Tonbridge AL by
going to Global-View.com Forex Forum and click on
the Members link under Post a Message.
3. Tech Talk:
By Donald C. Wilcox
I often get questions about finding ways one can determine
the probable extent that a trading instrument could move during the life of its
current trend. How does one ‘know’ that the unfolding move could last one big
figure (100 pips) or perhaps five big figures (500 pips/ticks) or even more?
Thus, the basic question involves just how far will a specific instrument (in
this case a currency pair) move when its consolidation period is completed?
My first response is always about the use of technical
analysis in determining the probability of a move in the market. My second
response is in regards to fine-tuning methods of such analysis to fit the
appropriate time frame and trading capital requirements involved. If one is aware of the technical reasons for a potential move then
the answersof just how far the move could last lies
in front of them. The tools of technical analysis provide the clues in
figuring out any potential trend. There are many types of tools to be used in
technical analysis. For the sake of simplicity I simple break them down to fall
into two categories – either charts or studies. The use of chart patterns
and/or indicators can greatly assist in anticipating and (more importantly)
catching market moves.
The pattern analysis on charts is helpful in seeking out
potential moves in the financial markets (currency pairs for me). There are two
broad categories of charts – continuation patterns and reversal patterns. Such
pattern analysis is helpful in determining if a trend is underway, continuing
or near its final stage. Simple knowing which type of category your time frame
involves is a good starting point. However, not all patterns come to fruition
and many encounter periods of refinements to the breakout levels (better
described as ‘choppy’ price patterns). The beauty of patterns is that the
risk/reward parameters are clearly defined. If one has reason founds reasons to
be IN a trade, then reasons to be OUT of the trade are also defined at the same
The above chart is the British Pound against the Japanese
Yen (Referred to as Sterling Yen in the spot currency lingo). A chart pattern
known as the Head and Should formation is underway
with a break of the neckline back on May 16th. Now during the second
week of June the pattern remains valid, but the measured move objective has not
been achieved and the neckline is in danger of being breeched on the upside
(nullifying the pattern). Well under
pattern analysis, the risk remains above the neckline set at 198. The objective
would be the 191 level for this cross The objective is determined by taking
the value of the high (205) and subtracting it from the value of the neckline
(198). The potential move on this chart pattern is seven big figure (or 700 tick/pips).
That is a sizable move in the currency market. The pattern has enabled us to
see a potential move and calculate the potential profit point and gives an idea
of where the suggested stop loss order needs to be place (Above the neckline). This all fits into the realm of sensible
risk/reward style trading. Sounds great on paper. But
as mid June strolls around, the trade is turning towards breakeven after being
some 400 pips in the money just six trading sessions ago. Here is where emotion
now gets the upper hand on those who try to use a system to trade. Does one now lock in a small profit (one
never goes broke taking a profit) or take the risk of being stopped out with a
loss? As hard as it seems, one has to remain with the pattern despite its emotional
roller-coaster effects on the psyche.
Successful trading is all about defining WHO you are and sticking with
that definition through thick or thin.
The use of studies is another area of technical analysis
that helps to determine the possibility of new emerging trends. It is very
important to know which indicators are historically effective in specific
market conditions. There are indicators that work better in consolidation
markets and others that work ideally in a trending market. In the early stages
of a new trend, the ossicilators (RSI,
Stochastics) can flash ‘overbought and over sold’
conditions for periods of time that will likely outlast most retail traders
capital, particularly if one is highly leveraged. Other trend following techniques
miss a good portion of a move before ‘confirming’ a trend.
Here again is the Sterling
yen chart that used the chart pattern for a measure move. Now we will use
technical indicators to allow us enjoy a
Using the indicator MACD as the
trade trigger, we sell the Sterling Yen cross upon confirmation that the MACD crossed under (and closed under) the zero line. This
signal remains valid at the time of writing since the MACD
remains under the ZERO line. This trade was enacted back on May 3rd
when the cross was at the 198.51 level. The open position did move about 100
pips against the opening level a few days later, but the MACD
signal did not move back above the ZERO line.
This level of trade entry is a bit better under the MACD then if we waited for the H&S
chart pattern used in the first scenario to be confirmed with the neckline
break on May 16th. However, unlike chart patterns, solely relying on
indicators gives no idea what would nullify the MACD
signal in this case or how far into (or out of the money) the trade will result
in. Such uncertainly adds to the traders anxiety,
especially if high profile economic data is set for release. Emotions again can
override the signal. The trade anxiety can be reduced by introducing a SECOND indicator to
use as a stop. We shall use the parabolic study as a trailing stop. The use of
a second study builds in some relief that a risk management system is being
The parabolic stop in the Sterling
yen example was elected back on June 10th at the 196.65
level. This would have resulted in almost a 200 pip profit (198.51 entry minus
196.65 exit) But
the original signal that presented the short Sterling
yen position remains valid at the time of this writing. Does one re-enter
again? There are always lots of questions and doubts in trading. That is the
nature of the beast.
One of the problems in staying with the trend using
technical indocators is the powerful human emotion of
being right ‘correct’. Even when trying to use a technical system to trade the
emotional effect can override any chart or indicator. Humans love being right
and locking in profits too soon seems to be a consequence of that
emotion. When one happens to be correct with a favorable position in a trend,
it is very tempting to lock in profits for the sake of the ego. (same way in which not to admit one’s analysis is wrong in
NOT taking a loss). But it is frustrating to watch the forecasted move unfold
with out sustaining a position. How does one overcome this?
To me it is all about disciple and risk management and
sticking with your ‘system’. Easier said then done.
Finally, there is always the question about which indicators is reliable or what time frames for chart
patterns are best? To answer, one has to look into their trading soul and
define what they are. Basic question to ask include: 1) are you a day trader,
position trader, event driven, systems trader, etc. 2) what are your risk
parameters and capital requirements.
Once you define who you are, then it is reasonable to see what type of
trends your style is capable of achieving.
Donald C. Wilcox covers
the geopolitical, economic and technical developments of the global financial
markets and their resultant
impact on Forex rates, pricing levels, and long-term valuations for Helia Resource LTD, which consults to the top banks and
hedge funds around the world.
Wilcox is a twenty-five year veteran of Forex trading and strategy, and helped
established corporate currency trading at Oppenheimer & Co. in 1991. He was
later the Senior Proprietary Foreign Currency Dealer at the New
York branch of the Bank of Yokohama.
4. Forex Industry News:
Global-View.com D.O.G. Index
By John Bland
We have recently launched the
Global-View.com D.O.G. Index, which shows the change in the purchasing power of
the U.S. dollar against the top trading currencies, gold and oil. If you look
at the chart on D.O.G. Index it shows the D.O.G.
index falling below the pivotal .50 level, indicating the U.S. dollar has lost
over half of its purchasing power in terms of foreign currencies, oil and gold
since the euro was launched on January 1, 1999. The .50 level will then
become a barometer of sentiment for the dollar, as reflected in performance vs.
these three components.
Global-View.com D.O.G. (Dollar, Oil and Gold) Index
Most successful forex traders keep track of more
than one market at a time when trading. They keep an eye on a number of key
forex relationships, and also watch the price of benchmark instruments such as
gold and oil. In an effort to summarize the movement of all these items,
Global-view.com has developed the "D.O.G." (Dollar, Gold and Oil) index. The "D.O.G."
index reduces to a single number the daily value of the dollar for top forex
trading currencies, gold and oil. The index falls as the purchasing power of
USD weakens and rises as it gains.
The forex value of the dollar is based on the USD change against the top six
trading currencies (Eurozone euro, British pound, Japanese yen, Swiss franc,
Canadian dollar and Australian dollar) weighted by trading volumes based on
data reported in the BIS
Triennial Forex Survey.
The weighted USD value is then mixed with the change in the price of gold and
oil to produce an index much like that published for stock prices (January 2,
1999=1.00). So that the volatile price of gold does not completely dominate the
calculation, the index is adjusted by the historical price volatility of each
of the three major components. The goal is to arrive at a subjective measure of
the purchasing power of the U.S.
currency relative to these three key items.
As indicated, the base date for the index (index=1.00) is January 2, 1999. That was
the first official trading date of the euro, and close to the start of the
millennium. As of the April 15, 2011 close, the composite index had fallen from
its 1.00 base in 1999 to 0.506. The USD sub-component was 0.75,
oil was 0.41 and gold 0.19.
John M. Bland is an
author and co-founder and partner of Global-View.com. Prior to Global-View.com,
he was a forex trader and a private-label forex analyst for a top Fed watching
service in NYC. He has been a corporate forex advisor and also worked in
international liability management for a major N.Y. money center bank. John
holds an MBA from the University of California at Berkeley and a B.A. in International
Economics from Berkeley.