Trader Diary - A tale of winners and losers

Samuel J. Rae gives us an overview of the ups and downs he has experienced with his trading strategies over the last three months and the steps he takes to maintain a positive risk reward ratio.

First Published: e-Forex Magazine 57 / Retail FX trading / July 2014

Hello traders. There are two ways we can do this; one would be for me to give a comprehensive breakdown of all of my trades over the previous three months the outcome and the way I responded to them. However, that may get boring – and within the word limit constraints of this piece, I would be unable to go into each trade in relevant detail. For this reason, I have chosen four of my most interesting trades throughout the period, two winners and two losers, and focused on those.

First, it is important for me to point out that the last three months have been extremely reliant upon numerous fundamental factors. For this reason, I have taken the various fundamental conditions into account when placing my trades. Of course, my objectivity remains the same.

So, how have I managed to incorporate fundamentals into my candlestick charting strategy?

The answer is not complicated. I simply ensure that before I place a trade in a particular direction, there is no overarching fundamental bias working against my trade. This does not mean I monitor to-the-minute-news releases, as my risk management strategy generally (but not always!) leaves my position plenty of room to absorb intraday, data-driven volatility. It does mean that I take into account the previous four, perhaps five headline releases, and attempt to anticipate how these releases might affect both the central bank of the relevant economies’ monetary policy, and in turn, its effect on market sentiment. In short, and to use a highly relevant, up-to-date example, I am currently averse going long the euro versus most of its major counterparts, especially the US dollar.

This bias derives directly from the potential for a quantitative easing programme, be it this quarter or next. To explain, while the announcement of such program may temporarily boost the euro, in the sense that markets may expect some equities market and private industry recovery, in the long term, the laws of supply and demand suggest that printing money can only reduce the value of currency. Concurrently, regardless of how long it may last (and this is a big question for me at the moment) it is undeniable that risk-on sentiment is currently in control of the markets, and the US equities market bull-run is still underway. So long as these conditions remain, my bias remains bearish EURUSD.
So with that said, let’s take a look at the trades.

Aussie dollar short

First, an Aussie dollar short. Let me explain the reasoning behind my bias on this one. I’ve been watching the Aussie dollar carefully all year - primarily, as a result of the widely commented on Chinese economic slowdown. My bias, which it turns out has been invalid, was bearish Aussie between about the middle of January until the beginning of this month. It still remains bearish in this pair, but that’s more to do with my expectations of US dollar strength than it is to do with Aussie dollar weakness. Close to 30% of Australia’s export revenues derived from Chinese demand. Moreover, the vast majority of these revenues are generated from the mining industry - an industry that looks to be winding down after a decade-long boom in Australia. My thinking was that weakening Chinese demand for Australia’s mineral resources would compound this winding down and contribute towards a rise in unemployment in Australia. As it happens the reserve bank of Australia has so far done an excellent job of what they call rebalancing the economy, and seem to have mitigated any potential detrimental effects of weakening Chinese demand. Anyway, I did not recognise this until it was too late and held a bearish Aussie dollar bias for far too long. After something of a breakout towards the end of March the AUDUSD formed a bearish pin bar just shy of November 2013 support. This looked to me a perfect opportunity to enter in anticipation of a correction back down towards broken resistance around 0.9150. It fell in line with my bearish bias, so on March 28 I entered short as per my usual pin bar rules - stop loss placed at the pins high, entry on the pins close and a target at a previous key level; on this occasion, March resistance at the aforementioned 0.9150.

March 28 AUDUSD Short

March 28 AUDUSD Short

The trade initially moved in my favour, but as the chart shows quickly reversed into my stop loss just a few days later. For those of you familiar with me and my attitude towards trading, you will know that there some trades I can get past quickly, and others that linger with me for a while. I obviously don’t let those that linger affect my trading decisions, but it is sometimes difficult to avoid letting them affect my mood. This, as it turns out, is in the latter category. For my fundamental reasoning was strong, and that the setup was surefire. My mistake.

Dollar Yen

The next trade I’m going to talk about was a different trade with a similar outcome. I turned bearish Japanese yen somewhere around the beginning of March. Disappointing growth data preceded a host of muted releases can I started to believe that, despite being hailed as the final solution, Shinzo Abe’s three arrows policy may not be working as expected. I believed then, and still believe now, that even if inflation rises, without a concurrent increase in consumer spending, Abenomics may do more damage than good and force Japan back into a period of stagflation. On April 1, the Japanese government increased its sales tax from 5% to 8% and I saw consumer spending data around this period as a key barometer of the efficacy of Shinzo Abe’s policies. A pending sales tax increase should naturally boost consumption as individual bring forward purchases to avoid the extra cost. While modest growth was reported in both the retail sales data and consumer spending figure, it was not enough to convince me that traditional economic theory was playing out as expected. For this reason, I started to look for short trades in the Japanese yen. Again, for those reading this that familiar with my trading, you will know that I rarely stray from the major pairs. For this reason my primary focus was on the USDJPY.

April 23 USDJPY Long

April 23 USDJPY Long

My opportunity came on April 23, when after eight straight days of gain the USDJPY corrected towards a year-long support/resistance level around 102.219, and formed a bullish pin bar in the process. As per the previous trade, but on this occasion in the opposite direction, I entered according to my normal pin bar rules - stop loss at the pin bar’s low, entry at the pin bar’s close and what I remember seeing as a relatively conservative target at early March swing close high. Less than 24 hours later, the USDJPY reversed sharply and took out my stop loss. It turns out that despite my seemingly sound fundamental bias, the market disagrees with my reasoning and is yet to reach my target, which currently sits no fewer than 150 pips above current action.

Again, this was a pretty difficult loss to take. A couple of years ago, I rarely incorporated such fundamental reasoning into my directional bias. I felt that this helped me remain objective and separate myself from what often turned out to be a rational market sentiment. I’ve seen good results having incorporated fundamental aspect into my strategy, but every so often (as illustrated by the last two trades) my fundamental reasoning gets blown out of the water. I find that this adds an extra layer onto the emotional impact of losing trades that is often a little bit more difficult to overcome than when trading from a purely technical perspective. As I always say however, onwards and upwards. So, let’s move on to something a little more positive.

May 1 Platinum Long

May 1 Platinum Long

Platinum market

The next trade is one I’m particularly proud of, and is an example of when fundamental reasoning works in my favour. As most reading this will be aware three largest platinum mining companies in South Africa (and the world) effectively shut down at the beginning of this year. In a union driven strike, employees walked out demanding a doubling in salary. As mentioned, I rarely stray from the major currency pairs, let alone the foreign exchange market altogether, but as the strikes drew on, I could barely avoid the temptation. I started looking for long trades in the platinum market sometime around the middle of March, and ended up feeling like I’ve missed the boat is platinum fell during the period for about six or seven consecutive days, before reversing from support just shy of 1400 to regain nearly all the lost strength. During mid-April action once again fell to support, and there was tempted to enter went something of a pin bar formed on April 24. However, the pin bar’s tail presented me with a little bit too much risk for a market in which I rarely dabble, so I decided to sit on my bias a little longer and see what happened. About a week later, on May 1, second opportunity presented itself when a bullish pin bar formed through long-term support resistance around 1415. Entered long as per my usual parameters, with what turned out to be a conservative target at 1446. Price initially dipped towards aforementioned resistance, but it held strong as support the price reversed to hit my target less than 48 hours later.

Whereas the previous two trades were difficult to take, this is one I will likely not forget any time soon. Like I say, I rarely take trades outside of my preferred pairs, but I feel like I took advantage of an opportunity in this instance. They remain long platinum, but I am also well aware that the market may decline sharply upon any conclusion of the strikes. For this reason, I will likely stay away from the platinum market to avoid the inevitable volatility associated with any conclusion.

Euro Dollar

The final trade is another winner, this one however representing a return to familiar territory, namely the EURUSD. As mentioned in the introduction to this piece, I’ve held a short bias in the Euro for some time. I believe that some form of quantitative easing is inevitable, and that regardless of its short-term impact, in the long term it can only put pressure on the Euro versus its major counterparts. The EURUSD has swung pretty wildly over the past 2 to 3 months, and there have been chopped out of a couple of trades that I have not covered in this piece (two on the 16th and 17th of April and one on the 23rd of the same month), but an unconventional trade at the beginning of May finally played out in my favour.

“By maintaining positive risk reward ratio I can take the pressure off the outcome of my trade, and in turn my analysis, which helps me remove any emotion from my entry and exit decisions.”
“By maintaining positive risk reward ratio I can take the pressure off the outcome of my trade, and in turn my analysis, which helps me remove any emotion from my entry and exit decisions.”

I normally like to trade simple pin bar and inside bar patterns, but now and again, I will enter on the completion of what I like to call an  inside day turnaround. As its name suggests, the pattern completes when an inside day is followed by a candle that breaks either the high or the low of the mother bar but reverses to close within. If that candle or the next candle breaks in the opposite direction, I will enter on its close. In this instance an inside day turnaround formed at long-term resistance and the strongly bearish candle reversed and broke the lows of the mother bar. I entered at the close, taking on slightly more risk than I am normally comfortable with, with an ambitious target of April lows. Price action very quickly validated my bias, and my position closed out for a nice game on May 13. To follow up on that trade, I maintain a bearish bias in this pair, but would not be surprised to see a medium-term correction and a retest somewhere around my target.

May 8 EURUSD Short

May 8 EURUSD Short

So that’s it. A short representation of my trading of the past 3 to 4 months. I’ve chosen these winners and losers because they pretty accurately represent my win ratio, not just over the last 3 to 4 months but over the last few years. Sometimes I win, sometimes I lose. The key thing in my opinion, and I’m sure in the opinion of many reading this, is to manage risk appropriately. Those who know me know, and as those reading this may have figured out, I will never enter a trade where I stand to lose more than I stand to gain. I prefer to maintain a 1 to 2 risk reward ratio, but I’m also aware that this is not always the case as my EURUSD trade illustrates. By maintaining a positive risk reward ratio I can take the pressure off the outcome of my trade, and in turn my analysis, which helps me remove any emotion from my entry and exit decisions. This is not to say I do not care or feel about my trades, I’m not a robot, I just make sure that they affect my sleep rather than my trading decisions. I do not mind being tired if I’m happy with the way I execute my strategy.

Happy trading!