The GotForex Weekly Newsletter
The financial world is panicking again.
Today I scrapped this week’s idea for a newsletter when I woke up and saw that just since midnight, the GBP/JPY had fallen 1,400 pips. The Dow Jones Industrial Average futures contract fell overnight by 550 points, until further selling was frozen by the exchange because the maximum allowable drop had occurred.
There are some of you who, in times like these, panic along with everyone else and now you’re holding onto some really bad trades. Perhaps you’re getting close to a margin call. Perhaps you’re wondering if it is even safe to trade at all.
Here are some thoughts about what is happening, and what to do, to do in times like these.
1. The world financial indexes are dropping precipitously. The US dollar has, so far, been the major beneficiary. Money is flowing out of emerging market economies which attracted huge amounts of investment during the past 8+ years. Money is still flying out of real estate, technology stocks, and financial stocks, and just about anything else you can invest in.
The US report on Treasury International Capital Flows has shown the following over the past 5 months:
Source: U.S. Department of Treasury
Historical information is not indicative of future results.
The US dollar is gaining on all of this as investors are pouring money into US treasurys. The data above shows that purchases of perceived “safe” investments like T-Bonds and Notes have been strong, but money has been flying out of US equities.
It might seem paradoxical, but so far, the US currency has been the major beneficiary of what started as a US financial crisis. The cold economic front has now moved off the east coast of the United States and is spreading to Europe and beyond, and as that happens, money has been going into what investors believe to be the safest investments possible: bonds backed by the US government.
None of this means that the pattern we’re seeing above will last forever. The US dollar could reverse course if the market becomes more calm over the course of the next few weeks and months. The greenback could lose ground if the world begins to perceive that the US government has taken on too much toxic debt and now looks like an irresponsible financial corporation. Or if the US job market implodes (see newsletter from a few weeks ago). There are plenty of scenarios I can imagine where the US dollar turns the other way again. None of those scenarios are playing out right now.
2. With the financial markets still in turmoil despite the efforts of global financial leaders, investors across the planet are panicking. This generally means that traders are making decisions based on their emotions — sudden decisions without a lot of planning or thought. It also means that they are holding onto bad trades and then praying at night that the trades correct themselves. Rational thinking can be clouded by overpowering fear. Fear does not produce good trading results.
3. Are you taking enough time to be patient? In times like this, are you taking a bit of extra time before you trade, to think about how your decision could play out both positively and negatively? Before you enter an order, consider what the worst case scenario is. What is the worst that can go wrong? What do you stand to lose if your stop loss is hit? What percentage of your account will you lose if that happens? Is that an acceptable amount? It can happen, no matter how “safely” we believe that we put our stop loss. Realizing that it can happen is a big part of realizing that maybe you should just walk away from some trades.
4. What will you do if your trade goes right? What’s your game plan for a trade that does move in your favor? What is your plan for managing the trade, for taking profit, for moving the stop along the way? What is the basis of your decision to do that? These are the types of questions you want to answer (and not quickly) before you enter the trade. Once the trade is on, our emotions can start to cloud our judgment.
5. Never trade alone. Do you have someone else you can trust with whom you can talk about your trading? This doesn’t mean you’re weak, or that someone else is going to make your decisions for you. It means that you have someone to talk with if things go really wrong. Someone that will listen to your ideas about how to get out of a trade (good or bad) and who will help you stay on track with that plan. Perhaps many of you need no such person, and you are independently able to stay on track, avoid bad decisions, and see the world objectively on a regular basis, even in the face of massive financial loss.
At the same time, these could be — but we don’t know for sure, of course — a time of great opportunity, where currencies or other investments represent a bargain.
Only you can know for yourself how should best approach trading in a time like this. What’s right for you may not be right for others. What matters is that you have an understanding of risk, of how to manage a bad situation, a plan to deal with a trade that goes right or wrong, and a person in whom you can confide about your trading.
Let me know how you’re doing in times like these. I’d love to hear from you.
IBFX Chief Market Strategiest