Day Trading and Swing Trading the Currency Market

Technical and Fundamental Strategies to Profit from Market Moves

Kathy Lien

• Publisher: Wiley
• Year: 2015
• Print ISBN: 9781119108412
• eBook ISBN: 9781119220091
• Edition: 3
• Topic: Business
• Subtopic: Investments & Securities
• Index: Business

Play the forex markets to win with this invaluable guide to strategy and analysis

Day Trading and Swing Trading the Currency Market gives forex traders the strategies and skills they need to approach this highly competitive arena on an equal footing with major institutions. Now in it's third edition, this invaluable guide provides the latest statistics, data, and analysis of recent events, giving you the most up-to-date picture of the state of the fast-moving foreign exchange markets. You'll learn how the interbank currency markets work, and how to borrow strategy from the biggest players to profit from trends. Clear and comprehensive, this book describes the technical and fundamental strategies that allow individual traders to compete with bank traders, and gives you comprehensive explanations of strategies involving intermarket relationships, interest rate differentials, option volatilities, news events, and more. The companion website gives you access to video seminars on how to be a better trader, providing another leg up in this competitive market.

The multi-billion-dollar foreign exchange market is the most actively traded market in the world. With online trading platforms now offering retail traders direct access to the interbank foreign exchange market, there's never been a better time for individuals to learn the ropes of this somewhat secretive area. This book is your complete guide to forex trading, equipping you to play with the big guys and win—on your own terms.

• Understand how the foreign currency markets work, and the forces that move them
• Analyze the market to profit from short-term swings using time-tested strategies
• Learn a variety of technical trades for navigating overbought or oversold markets
• Examine the unique characteristics of various currency pairs

Many of the world's most successful traders have made the bulk of their winnings in the currency market, and now it's your turn. Day Trading and Swing Trading the Currency Market is the must-have guide for all foreign exchange traders.

Chapter 1
Foreign Exchange— The Fastest Growing Market of Our Time

The foreign exchange market is the largest and fastest growing market in the world. Traditionally, it is the platform through which governments, businesses, investors, travelers, and other interested parties convert or “exchange” currency. At its most fundamental level, the foreign exchange market is an over-the-counter (OTC) market with no central exchange and clearing house where orders are matched. FX dealers and market makers around the world are linked to each other around-the-clock via telephone, computer, and fax, creating one cohesive market. Through the years, this has changed with many institutions offering exchange traded FX instruments, but all of the prices are still derived from the underlying or spot forex market.

In the past two decades, foreign exchange, also known as forex or FX, became available to trade by individual retail investors, and this access caused the market to explode in popularity. In the early 2000s, the Bank of International Settlements reported a 57% increase in volume between April 2001 and 2004. At the time more than $1.9 trillion were changing hands on a daily basis. After the financial crisis in 2008, the pace of growth eased to a still-respectable 32% between 2010 and 2013, but the actual volume that changed hands was significantly larger at an average of $5.3 trillion per day. To put this into perspective, it is 50 times greater than the daily trading volume of the New York Stock Exchange and the NASDAQ combined.

While the growth of the retail foreign exchange market contributed to this surge in volume, an increase in volatility over the past few years also made investors more aware of how currency movements can impact the equity and bond markets. If stocks, bonds, and commodity traders want to make more educated trading decisions, it is important for them to also follow forex movements. What follows are some of the examples of how currency fluctuations impacted stock and bond market movements in past years.

EURUSD and Corporate Profitability

For stock market traders, particularly those who invest in European corporations that export a tremendous amount of goods to the United States, monitoring exchange rates are essential to predicting earnings and corporate profitability. Throughout 2003 and 2004, European manufacturers complained extensively about the rapid rise in the euro and the weakness in the U.S. dollar. The main culprit for the dollar's selloff at the time was the country's rapidly growing trade and budget deficits. This caused the EURUSD exchange rate to surge, which took a significant toll on the profitability of European corporations because a higher exchange rate makes the goods of European exporters more expensive to U.S. consumers. In 2003, inadequate hedging shaved approximately EUR$1 billion euros from Volkswagen's profits, while DSM, a Dutch chemicals group, warned that a 1% move in the EURUSD rate would reduce profits by EUR$7 million to EUR$11 million. Unfortunately, inadequate hedging is still a reality in Europe, which makes monitoring the EURUSD exchange rate even more important in forecasting the earnings and profitability of European exporters.

Nikkei and U.S. Dollar

Traders exposed to Japanese equities also need to be aware of the developments that are occurring in the U.S. dollar and how that affects the Nikkei rally. Japan recently came out of 10 years of stagnation. During this time, mutual funds and hedge funds were grossly underweight Japanese equities. When the economy began to turn around, global macro funds rushed to make changes to their portfolios in fear of missing out on a great opportunity to take advantage of Japan's recovery. Hedge funds borrowed significant amount of dollars to pay for increased exposure, but the problem was that their borrowings were very sensitive to U.S. interest rates and the Fed's monetary policy tightening cycle. Increased borrowing costs for the dollar could derail the Nikkei's rally because higher rates will raise the dollar's financing costs. Yet with the huge current account deficit, the Fed might need to continue raising rates to increase the attractiveness of dollar-denominated assets. Therefore, continual rate hikes, coupled with slowing growth in Japan, may make it less profitable for funds to be overleveraged and overly exposed to Japanese stocks. As a result, how the U.S. dollar moves also plays a role on the future direction of the Nikkei.

George Soros

Known as “the man who broke the Bank of England,” George Soros is one of the most well-known traders in the FX market. We discuss his adventures in more detail in Chapter 2, but in a nutshell, in 1990, England decided to join the Exchange Rate Mechanism (ERM) system because it wanted to take part in the stable and low-inflation environment created by the Bundesbank, the central bank of Germany. This alliance tied the pound to the deutschmark, which meant that the United Kingdom was subject to the monetary policies enforced by the Bundesbank. In the early 1990s, Germany aggressively increased interest rates to avoid the inflationary effects related to German reunification. However, national pride and the commitment of fixing exchange rates within the ERM prevented England from devaluing the pound. On Wednesday, September 16, also known as Black Wednesday, George Soros leveraged the entire value of his fund ($1 billion) and sold $10 billion worth of pounds to bet against the ERM. This essentially “broke” the Bank of England and forced it to devalue the pound. In a matter of 24 hours, the British pound fell approximately 5%, or 5000 pips. The Bank of England promised to raise rates in order to tempt speculators to buy pounds. As a result, this caused tremendous volatility in the bond markets, with 1-month UK LIBOR rates rising 1% and then retracing those gains over the next 24 hours. If bond traders were completed oblivious to what was going on in the currency markets, they would have probably found themselves dumbstruck in face of such rapid gyration in yields.

Chinese Yuan Revaluation and Bonds

For Treasury traders, there's another currency-related issue that is important to follow and that is the gradual revaluation of the Chinese yuan. For most of its history, the yuan or renminbi (RMB) was pegged to the U.S. dollar. In the 1980s, the RMB was devalued to promote growth in China's economy, and between 1997 and 2005 the People's Bank of China artificially maintained a USDRMB rate of 8.27. At the time, it received significant criticism because keeping the peg meant that the Chinese government would artificially weaken its currency to make Chinese goods more competitive. To maintain the band, the Chinese government had to sell the yuan and buy U.S. dollars each time their currency appreciated above the band's upper limit. These dollars were then used to purchase U.S. Treasuries, and this practice turned China into the world's largest holder of U.S. Treasuries. In 2005, however, China ended its dollar peg and linked the value of the yuan to a basket of currencies and allowed it to fluctuate within a narrow band that was reset every day. While the exact percentage of the basket is unknown, it is largely dominated by the U.S. dollar and includes other currencies such as the euro, Japanese yen, South Korean won, British pound, Thai baht, Russian ruble, and Australian, Canadian, and Singapore dollar.

Through the years China has gradually widened the band that the yuan can trade in, but if China were to end the float and allow the RMB to trade freely on the global foreign exchange market, the impact on the fixed-income markets would be significant because it would reduce the government's need to purchase Treasuries and other fixed-income securities. An announcement of this sort would send yields soaring and prices tumbling. While it could be years before this happens, it will be important for bond investors to follow these developments if they want to effectively manage the risk.

Comparing the FX Market with Futures and Equities

The foreign exchange market has not always been a popular market to trade because for many decades, it was restricted to hedge funds, commodity trading advisers who manage large amounts of capital, major corporations, and institutional investors due to regulation, capital requirements, and technology. Yet it was the market of choice for many of these large players because the risk was fully customizable. Trader A could use a 50 times leverage, and Trader B could trade cash on cash. When the market opened up to retail traders, many brokerage firms swept in to provide leveraged trading along with free instantaneous execution platforms, charts, and real-time news. This access to low-cost information helped foreign exchange trading surge in popularity, increasing its attractiveness as an alternative asset class to trade.

Many equity and futures traders also turned to currencies, adding the asset class to their trading portfolios. Before you choose to do so, however, it is important to understand some of the key differences between the forex and equity markets.

Characteristics of FX Markets

1. It is the largest market in the world with growing liquidity.
2. The market is open 24 hours, 5.5 days a week for trading.
3. Profits can be made in both bull and bear markets.
4. There are no trading curbs, and short selling is permitted without an uptick.
5. Instant executable trading platform minimizes slippage and errors.
6. Leverage can be extremely high, which can magnify profits as well as losses.

Characteristics of Equities Market

1. There is decent market liquidity, but that can depend on a stock's daily volume.
2. The market is only available for trading 9:30am to 5pm NY Time, with limited after-hours trading.
3. The existence of exchange fees results in higher costs and commissions.
4. There is an uptick rule to short stocks, which many day traders find frustrating.
5. The number of steps involved in completing a trade can increase slippage and error.

As one of the most liquid markets in the world, the volume and liquidity present in the FX markets has allowed traders to access a 24-hour market with low transaction costs, high leverage, the ability to profit in both bull and bear markets, minimized error rates, limited slippage, and no trading curbs or uptick rules. Oftentimes, traders can use the same strategies for analyzing the equity markets in the FX market. Fundamental traders will find that countries can be analyzed like stocks. Technical traders will find that the FX market is perfect for their style of analysis because of the abundance of tick data and because it is already one of the most commonly used analysis tools by professional traders. Now let's take a closer look at the individual attributes of the FX market to really understand why this is such an attractive market to trade!

24-Hour Market

One of the primary reasons why the FX market is popular is because for active traders, it is the ideal market to trade. It's 24-hour nature offer...

Table of contents

• Cover
• Title Page
• Copyright
• Table of Contents
• Dedication
• Preface
• About the Author
• Chapter 1: Foreign Exchange— The Fastest Growing Market of Our Time
• Chapter 2: Historical Events in the FX Markets
• Chapter 3: What Moves the Currency Market?
• Chapter 4: A Deeper Look at the FX Market
• Chapter 5: What Are the Most Market Moving Economic Data?
• Chapter 6: What Are Currency Correlations, and How Can We Use Them?
• Chapter 7: Trade Parameters for Various Market Conditions
• Chapter 8: Technical Trading Strategy: Multiple Time Frame Analysis
• Chapter 9: Technical Strategy: Trading with Double Bollinger Bands
• Chapter 10: Technical Trading Strategy: Fading the Double Zeros
• Chapter 11: Technical Trading Strategy: Waiting for the Deal
• Chapter 12: Technical Trading Strategy: Inside Days Breakout Play
• Chapter 13: Technical Trading Strategy: Fader
• Chapter 14: Technical Trading Strategy: 20-Day Breakout Trade
• Chapter 15: Technical Trading Strategy: Channels
• Chapter 16: Technical Trading Strategy: Perfect Order
• Chapter 17: Fundamental Trading Strategy: Pairing Strong with Weak
• Chapter 18: Fundamental Trading Strategy: The Leveraged Carry Trade
• Chapter 19: Fundamental Trading Strategy: Macro Event Driven Trade
• Chapter 20: Quantitative Easing and Its Impact on Forex
• Chapter 21: Fundamental Trading Strategy: Commodity Prices as a Leading Indicator
• Chapter 22: Fundamental Strategy: Using Bond Spreads as a Leading Indicator for FX
• Chapter 23: Fundamental Trading Strategy: Risk Reversals
• Chapter 24: Fundamental Trading Strategy: Using Option Volatilities to Time Market Movements
• Chapter 25: Fundamental Trading Strategy: Intervention
• Chapter 26: Currency Profiles and Outlook
• Chapter 27: Currency Profile: Euro (EUR)
• Chapter 28: Currency Profile: British Pound (GBP)
• Chapter 29: Currency Profile: Swiss Franc (CHF)
• Chapter 30: Currency Profile: Japanese Yen (JPY)
• Chapter 31: Currency Profile: Australian Dollar (AUD)
• Chapter 32: Currency Profile: New Zealand Dollar (NZD)
• Chapter 33: Currency Profile: Canadian Dollar (CAD)
• Index
• End User License Agreement