A couple of weeks ago, I wrote about how forex prediction and predicting the markets can be about as fraught as predicting the weather.
Rather like the flap of a butterfly’s wings in Brazil causing a tornado in Texas – a tiny change in one place of a complex system, can have significant effects elsewhere.
And nowhere do I see this more clearly demonstrated than in the forex markets.
It’s why trading the news is so difficult, and why so many traders chose to ignore the fundamentals and bury their heads in charts.
Forex prediction – trying to make sense of it
This year, the UK pound has been up – it’s been up against the US dollar, up against the euro, and even up against last year’s strongest currencies – the Swiss franc, the Japanese Yen and the Aussie dollar.
And then, two weeks ago, as events in North Africa and the Middle East have led to increased oil prices – the pound just got stronger.
What’s going on? Did we discover some new oil reserves in the North Sea that someone forgot to tell me about?
Or did I misread a “plus” sign as a “minus” on those GDP figures last month?
That’s the thing with trying to second-guess the forex markets – the answers aren’t that straight forward.
It may seem contrary, but part of the reason that sterling has been going up, is because things are looking so bleak!
Our already high inflation figure is, to a large part, driven by high oil prices. Oil prices look at the moment like they’re only moving in one direction, which means that our inflation level is likely to keep on going up.
At some point the Bank of England will have to step in and raise interest rates. And currently, the UK is looking like it’ll be the first major economy in which the central bank will be forced to take these measures.
So, if currency traders think the interest rates will be going up – they’ll want to put their money into sterling – it’s a bit like moving your money into a higher-rate savings account.
Hence the boost to the value of the pound.
Don’t trade what you think
The forex markets very often don’t react to news in rational ways. And even when they are rational, there are so many factors at work that it’s impossible to include every variable and to give it the correct weight in your decision-making.
The good news, however, is that it doesn’t matter …
The successful trader doesn’t second-guess what the markets will do.
Instead, he waits for the right signals to tell him that there’s a trading opportunity. He knows what his odds are for this being right. And he will make a decision based on the risk.
The successful trader will have intelligent processes and systems – but his decision-making should involve very little brainwork. Not only should we trade without emotion – we should trade without intellect as well!
Before you place a trade, ask yourself: “Am I trading because the set-up is right? Or am I trading because I think I know what the market will do?”
If it’s because you think you know what the market will do – you might want to question your motives further.
Trading coach and blogger Mike Bellafiore puts it suctinctly:
”Professional traders make good risk/reward trades and are not concerned with the outcome. Nor are they under the delusion that they really know where a stock or the market is headed. Those who will be pushing paper around at some dead end job in the near future are new traders who trade seeking to fulfill some narcissist need to be correct. Or smarter than the market. Or your trading neighbor. Or a friend. Get over yourself.You have no idea where the market or stocks are really going in six months. All there is are favorable risk/reward trades to make with the outcome uncertain and controlling your risk paramount.”
Trading what you see
I recently found this video on YouTube, which I think explains the difference between trading what you see, and trading what you think, far better than I could. It also raised a laugh at Maven HQ:
In the next seven days …
On Tuesday, China will release its inflation numbers. These are expected to show that inflation has accelerated to its fastest pace in 30 months, and will explain this week’s interest-rate rise (the third rise since October).
Chinese inflation is largely driven by food costs, and a predicted failure of the wheat harvest this year does not bode well.
In the UK, we shouldn’t be expecting a let-up. On Tuesday we’ve the consumer price inflation and retail price inflation for January – anticipated at 4% and 5% respectively.
On Wednesday unemployment numbers are expected to be up, and Friday’s retail sales figures will probably show a squeeze on the high street due to the VAT rise.