2010

B U I L D A S I M P L E T R A D I N G P L A N

O P T I O N SSPECULATIVESTR ATEGIES

G A N G E ’ S G O L D R A L L Y

PSYCHOLOGYWHOLE!MIND T R A D I N G

t r a i n i n gBrett Steenbargert r a d e r s c o a c h

inter v i e w

JANUARY - MARCH 2010

FUNDAMENTAL A N A LY S I S

TRADER MAGAZINE

VOLATILE STABILITY OF LATE 2009 DANGERS FOR 2010Analysis of the dynamics of the currency markets in the last months of 2009 and possible future crisis for the majors.

CONTENTs FXCONTENTs FX

FX TRADER MAGAZINE January - March 2010 3

05 EDITOR’S NOTE

MACRO ECONOMY:32 Ganges’ gold: the antagonist rally

FUNDAMENTAL ANALYSIS:14 2010 – Expect high volatility: the private banker’s analysis

TRADING STRATEGY:28 A simple plan to trading: a step by step approach to the elaboration of a trading model.

TRADING SYSTEM:10 Building a Robust FX

Trading System – Part 4 – Exploiting the volume profile

INTERVIEW:36 Christopher Brandon, FX manager, explains why it is fundamental to focus on the absolute risk and be always aware of the worst case scenario

OPTIONS: 40 Speculative Trading with Options: the importance of volatility in speculative option trading

TECHNICAL ANALYSIS: 42 Currency Report:USD/YEN, EUR/USD,EUR/JPY, EUR/GBP46 Norway Krone

48 Technical Outlook: Majors, Emerging Markets,EUR/NOK, EUR(USD, USD/PLN

INTERNATIONAL DATA:52 FX Spot Monitor53 Central Bank Rates54 Economica Data - FX Poll55 Markets View

56 ECONOMIC CALENDAR

TRADING PSYCHOLOGY:

06

BRETT STEENBARGER! INTERVIEW:

Traders Performance Coach, Brett explains how he works with professional traders, helping them build on their patterns of success

21

14

Learn about the bene"ts of whole-mind trading, c o m b i n i n g instinct and analysis.

Jeremy Ascher is a technical analyst and screen trader with 15 years of experience on the !oor of NYMEX. In the year 2000, he realized the critical role technical analysis would play as trading evolved from the pits into the electronic era. In 2001, Chartwhiz.com, Inc. was born. He later joined forces with another analyst and today they provide a full-service technical research package for the energy and metal futures markets at www.chartwhiz.com to clients spanning from the professional !oor trader and retail trader to industry trading desks and hedge funds.

Alessandro Balsotti, is head of FX trading in Abax Bank and covered the same role previously in Banca Caboto. For several years he has been the FX market-maker of Italian Lira, Greek Dracma and Czech Crown in JP Morgan.

Curtis Faith is a best known for getting his start as a member of the elite Chicago trading group, the Turtles. In his early 20s, Faith earned more than $30 million dollars as a member of the renowned group that started as a bet between it founders,. Faith reveals the inside story of his days as a member of this secretive trading group in his bestselling book Way of the Turtle, which has sold over 70,000 copies and has been translated into 9 languages. His newest book, Trading From Your Gut (FT Press), combines insights on trading psychology, managing risk, and trading methods, www.curtisfaith.com/about-curtis/

Alessandro Fugnoli, worked for 9 years as head of macroeconomic and strategic research in AbaxBank and recently joined Kairos Partners. He is a well-known Italian "nancial analyst and previously worked as Director of Research for Caboto group. He also covered the roles of Investment Director in Gestnord broker and account executive in Merrill Lynch.

Steffen Gregersen has played a leading role in Saxo Bank’s Quantitative Analysis and Advance Research Department in its development of the bank’s option pricing models. He holds a degree in Mathematics and Economics from the University of Copenhagen where his thesis was on the effects of jumps in underlying prices on option prices.

JW Partners is an independent FX solution provider, based in Milan, with a strong FX speci"c know-how. JW supports institutional investors and HNWI in building quality FX multimanager portfolios, and FX underlying structures. Steve Jarvis, from TraderMade International has over 20 years’ experience of providing technical analysis to FX professionals. Formerly Chief Technical Analyst at MCM Currencywatch and Informa Global Markets, Steve now heads the technical analysis at InterpreTA, Tradermade’s newly launched technical analysis service. www.tradermade.com/InterpreTA.asp

Caspar Marney, started his trading career, as a spot currency trader and technical analyst with HSBC in London. He then moved to SBC Warburg (later UBS) as a proprietary trader and global head of technical analysis for FX and precious metals, where he became one of the bank’s most successful traders and a regular commentator on "nancial television.

Giorgio Martini has been a forex trader since 2000 and has worked for leading Italian banking groups. His articles are regularly published on the Italian "nancial portal www.smartTrading.it. He also collaborates with Age Italia, an independent "nancial consultancy "rm.

Maurizio Milano, began his career as forex dealer in 1995. He started the technical analysis department at Banca Sella Group. He teaches technical analysis at the University of Turin, Italy. His contributions can be found in the most renowned Italian "nancial newspapers and televisions. He is member of SIAT (the association of the Italian technical analysts) and IFTA (the International Federation of Technical Analysis).

Nicolò Nunziata is Equity Portfolio Manager at JC&Associati SIM (www.jcassociati.it). He worked for Banca Profilo, Euromobiliare, Akros, Credit Suisse First Boston and UBS, as responsible for trading and arbitrage on Government bonds and derivatives. He is also an appreciated lecturer in the fields of finance fundamentals.

CONTRIBUTORSFX

Editor : Emmanuelle Girodet

editor@fxtradermagazine.com

Advertising manager:Isabella Lamera

ad@fxtradermagazine.com

Webmaster:Hristo Katzarski

webmaster@fxtradermagazine.com

Graphic design: Preslav Dobrev

Editorial support:Lorenzo Lorenzi

Luca Di BariValeriano Lisanti Simon Holmes

Trading carries a high level of risk, and may not be suitable for all investors. #e objective of FX Trader Magazine is to give readers the tools, training and information which will help them be better prepared to trade on the foreign exchange. However, any analysis, news, research, strategy, or other information contained on this magazine is provided as general market information and does not constitute investment advice.

FX Trader Magazine, will not accept liability for any loss or damage, including without limitation to, any loss of pro"t, which may arise directly or indirectly from use of or reliance on such information.

Subscriptions:www.fxtradermagazine.com

4 FX TRADER MAGAZINE January - March 2010

In the last article in the series, we discussed robust trading ideas, comparing moving averages with a channel breakout strategy, showing how the latter is of much greater value and how using a moving average system may show great results in back testing but can be fatally flawed in actual trading.

The channel breakout strategy, while having less impressive performance statistics during ‘in sample’ testing, showed robust performance over time, with the same parameters providing a robust edge, over time.

The reason that channel breakout systems have stood the test of time is likely because markets trend in the long term and a new multi-month high is always going to have much more psychological significance than the crossing of two arbitrary moving averages. The findings strongly support the argument that any system based on predictable market behaviour, is likely to be much more robust than one based on arbitrary mathematical algorithms.

Therefore, in this article we are going to explore another exploitable aspect of predictable behaviour in the markets, which is much shorter term in nature; namely when traders start and end their trading day. This has been exploited in the futures markets with strategies such as the opening range breakout.

VOLUME AND TIME OF DAY

Monroe Trout, who famously made billions out of systematic trading, made some interesting observations about the futures markets when asked about the most liquid times of day, in his interview in ‘!e New Market Wizard’ by Jack Schwager.

“!e most liquid period is the opening. Liquidity starts falling o" pretty quickly a#er the opening. !e second most liquid time of day is the close. Trading $olume typically forms a U-shaped curve throughout the day… Generally speaking

those patterns hold in almost every market. It’s actually pretty amazing.”

While the foreign exchange markets have no "xed open, nor close, being fragmented between banks, brokers, electronic trading platforms and time zones, they too still display very predictable behaviour.

I have never seen similar analysis done on the

foreign exchange markets before, nor seen a strategy published before to exploit the phenomenon.

!is is probably because it is impossible to get accurate, historic, or real-time volume data for foreign exchange. However, it is possible to sample the market and compare the "ndings with other known volume information, to determine the volume pro"le for foreign exchange:

Building Robust FX Trading Systems – Exploiting the Volume Pro"le

FX TRADING SYSTEMS

10 FX TRADER MAGAZINE January - March 2010

FXTRADING SYSTEMS

The EBS (Electronic Broking Service) trading platform is the largest liquidity provider and we can compare this to data also kindly provided by Barclays, from their BARX trading platform. The first two graphs below show the percentage of daily volume traded for each hour of the day, for the major currency pairs.

In both cases, we can see a very similar pattern emerging. Aggregating the results shows the distribution much more clearly :

Just as Monroe Trout observed for the futures markets, although the foreign exchange markets have no fixed open, nor close and are traded twenty-four hours a day, they too follow a very predictable pattern every day.

When the aggregated volume across all currency pairs is plotted as a single graph, we can clearly see three

distinct, ascending peaks of volume as first Asia and then Continental Europe, London and then the US trading sessions start. Many surveys have been done to determine the major turnover for foreign exchange by trading centre, most notably the Triennial Survey from the Bank of International Settlements, last published in 2007.

Therefore, we know that the three largest trading centres are London, Continental Europe and then the US. It’s therefore not surprising to see that the largest volume of the day is during those few hours between 1pm and 4pm, during the London afternoon when the three trading centres are active. This even holds true for major Asian currencies such as the Japanese Yen that are not natively active during that time.

EXPLOITATION OF VOLUME

It is a very well proven and accepted principle of trading that volume confirms a trend. If one was locked in room, without access to any news and was only able to see price and volume, any major event would be reflected in that information. If there was a sudden move but little volume then it’s unlikely that move was genuine. If however, an event such as 9/11 occurred, one would have seen both a large range in the price as well as a significant increase in trading volume. This type of volume confirmation allows a trader to know whether a move is of genuine significance.

FX TRADER MAGAZINE January - March 2010 11

This is one of the edges I enjoyed as a trader, while sitting on the foreign exchange desk at a major investment bank. We could physically see the customer flow going through and literally felt it, with the increase in noise. Whether consciously or not, a trader at a major investment bank cannot help but be aware of an increase in trading volume, just as a trader on the floor of an exchange is similarly aware.

It is actually almost impossible not to be aware of the interest building in a certain currency pair and this is something that almost certainly contributes to what traders often refer to as their feel, or gut instinct. It’s also likely the reason why so many traders find the transition from a bank’s dealing room to trading successfully outside it, to be so difficult.

One of the major challenges for an FX trader, outside a bank’s dealing room, is that actual traded volume is not available in real-time across such a fragmented market, so it is very difficult to know when the volume is increasing. However, what the FX trader does know, is that any move occurring between 1pm and 4pm is very likely taking place on increasing volume, at the highest volume time of day. Therefore going with a move during those few hours is likely to provide a significant edge, over time.

TRADING STRATEGY

There are many ways to define a move, such as a change in momentum, expansion of the range, the divergence of two moving averages, the RSI crossing through the 50% level, or even standard deviations. However, let us take the simplest definition of a trend, being that of a new high or low.

We know that the lowest volume time of day is the New York close, or 10pm in London and highest volume is between 1pm and 4pm. Therefore, if we consider the New York close to be the end of one trading day and the beginning of the next, we can apply a simple trading rule to test our theory:

Buy if the market makes a new high or sell if it makes a new low, between 1pm and 4pm.

This simple strategy, without any money management, or stops, produces the following returns, based on a £100,000 account, with the portfolio being an average of the three equity curves.

Slippage, costs and interest have not been included, as these will vary from account to account, though these factors are more than offset by the addition of some basic money and risk management principles.

We can see that the trading rule doesn’t make money in all currency pairs in all years and has significant drawdowns, as well as extended periods to new equity highs. However, going with a move during the London afternoon clearly provides a robust trading edge, whether used in isolation, or as a filter to be used in combination with other trading strategies.

Again, as with the other behaviour discussed in this series of articles, we can see that while there are countless trading strategies that may work for short periods of time, based on arbitrary mathematical algorithms, there are some trading strategies that are genuinely robust, based on sound, predictable market behaviour.

Caspar Marney

FX TRADING SYSTEMS

12 FX TRADER MAGAZINE January - March 2010