A Warning for Forex Traders; Don’t Count on a Central Bank to Protect Your Trade

Trader Alert The forex trading landscape is littered with losses and blown accounts by those who counted on central bank support for their positions. While betting on central bank intervention may work at times, when it doesn’t the result can be painful or even a disaster.

I learned this lesson early on when I ran a forex trading room for a commodity company. Let me lay out the background:

It was a time of dollar weakness

The Fed trading desk would leave dollar buy orders with banks after London’s close to keep the dollar from coming under selling pressure during the NY afternoon.

That is, until one day the dollar plunged, and I mean plunged out of the blue.

Where Was the Fed?

I called a friend who ran a dealing room for a small bank that was connected to the Fed trading desk. I could feel the steam running through his phone line. He was caught betting on the Fed to support the dollar as it had been for days. I asked, Is there news? He said, teeth grinding, nope. The Fed traders went to lunch and forgot to leave dollar buy orders. I learned that day never to count on a central bank to bail me out of a position/

EURCHF Flash Crash of 2015

Skip ahead to January 15, 2015, a day anyone trading in the forex market will never forget. The Swiss National Bank (SNB) maintained a cap on the value of the CHF vs the EUR at EURCHF 1.20.
It felt like free money to buy EURCHF above 1.20 knowing the SNB was protecting the downside until out of the blue the central bank pulled its support.The result was like nothing any trader had ever seen. EURCHF gapped lower by as much as 20-25%.

Stops didn’t help. Do the math. Let’s say you had a stop at 1.1980 and got filled at .9600 (or even lower). Even worse were the margin calls where positions were closed at the first available price. The result was not just accounts getting wiped out but traders getting notices to cover negative balances resulting from entry positions vs. where those positions were closed out.

Will the BoJ Protect You

Let’s move ahead to current times where the Bank of Japan has drawn a line in the sand at USDJPY160. Does this mean you should count on the BoJ to protect a USDJPY short position? Are you willing to sit in a position underwater in anticipation that the BoJ will bail you out with currency intervention?

Look at this chart. Let’s do a hypothetical. Would you sell USDJPY at 154.00, betting on the BoJ to eventually bail you out with intervention, or wait to sell at a higher level, such as with a stop above 156.28 or 158.00, or not at all?

A Central Bank is Not Your Friend

All I can say is read what I wrote above and decide for yourself whether you are willing to enter a position solely on expectations, in this case, the BoJ, will come to the rescue.

My advice, and I do not say this lightly, is to evaluate a trade based on whatever system or strategy you are using  If it satisfies your criteria, then put on the trade. However, if you put on a trade solely on expectations that a central bank will intervene, then buyer beware.

Remember a central bank is not your friend. It is more than happy to inflict pain on the speculator than reward him. This is a lesson I learned a long time ago. I never tell anyone how to trade but keep this in mind if betting on a central bank to protect your trade.