Christmas cheer in financial markets

Trading has opened my eyes to things that I understood in part about financial markets but rarely experienced fully. I now respect the power of market forces more than any amount of text book study of economics could explain.

Holidays such as Christmas pose interesting problems in modern financial markets. When they operate such markets are open 24 hours, and function as the time zones dictate. During holidays you remember quickly that not everyone follows the same traditions. Christmas is routinely a two day holiday in many parts of the former British Empire (with most activities closed on December 25 and 26), but in most of Europe, Asia and North America, it is only Christmas Day that is a holiday. New Year's Day is routinely a holiday, but in Asia many markets close until January 4. What that all means is that conditions in the markets during such periods are really abnormal; most trading desks are barely manned and it's hard to know if movements, which tend to be exaggerated and in one direction, are really sustainable. However, if you get on the right side of deals you can do well.

A few funny things happened during this shortened holiday week, but most notably it seemed that the US dollar rally that had begun a couple of weeks ago fizzled out and the "trend" to selling US dollars resumed towards the year-end. The Euro, which I had thought several weeks ago would move to become a "safe haven" currency instead of the US dollar, seemed to develop that role this week. For me that was a little frustrating because I had anticipated such a change a few weeks ago and bought Euro against the US dollar only to see the Euro wilt against the US dollar. So, when I saw the Euro edging up from the mid 1.435 against the dollar I said to myself that 1.44 would be the limit; but up it soared after Christmas Day and ended the week well over 1.4720 (see chart). A huge move in a few days. Again, you can't look back and say "What if...?" You make a decision and stick with it.

My decisions were that pound sterling and Japanese yen would fall against the US dollar, with both the UK and Japan having separate economic woes, and apart from one period where I got caught out by a sharp reversal of sterling (following the assassination of Benazir Bhutto on Thursday which raised concerns about terrorism), I was more or less on the right side.

It is proving instructive to be in the market to see how trends develop and what affects the rates. Sometimes it's pure fundamental factors, other times it's news and rumours, and at yet other times it's just "whatever". I am developing great respect for the currency strategists, who overall get the calls right and by following some of their deep analysis I have done much better than if I were flying "blind". They are especially good and helping to figure out how far rates seem likely to move and their turning points. My one big mistake this week (with sterling: dollar) was not seeing the turning point and staying with a sell position too long before reversing to buy: in the end I was even as I recouped my losses fully over two days.

My other mistake, which is recurrent, was in not letting deals go to the target that I had set. I realise that the desire to take profits early is conditioned by the fear of loss. Yet, on balance when a target has been set and the deal does not get to "benefit" from my overlooking it, things work out well. Selling US dollar:Yen from 113.45 to 113.0 was one case; though the fall continued through 112.30. Sure, the limits could be extended to get more profit but there is also the principle of "enough already". A lot of nice deals give 20-40 point gains and they multiply into significant gains over time and are more sustainable than looking for the 60+ point gains, which often take a while to mature and may end up being 30-40 point gains.

I did learn a nice lesson in "waiting for the right opportunity" when one of my sterling:dollar deals peaked momentarily and flashed a huge profit in front of me for a milli-second and before I could close the deal receded quickly and started to register larger and larger losses. I said to myself, 'This is a test of the low point, which I will ride out and buy into near the bottom. But I will only see this go so far." I got it right, bought more near the bottom, and then was able to sell as the price rebounded to get even higher profit than I had missed initially. I reduced the position (whose size made it potentially very risky), and am still in with half of the original position running over the weekend, with additional profit already on the board.

I also traded nicely with US dollar:Japanese yen in terms of buying on dips or selling on rallies, and instead of profiting from a single position got profits from the rise and fall of the pair over several days.

Next week will again be one with tricky, illiquid markets, but I have seen enough this week to give me good ideas for a workable set of strategies. I will read my market reports over the weekend then set up my deals and look forward to heralding in a promising new year.

Happy trading!