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Forex trading, like many new things, is confusing yet simple

In addition, most FX dealers offer a negative balance protection guarantee that ensures that your account will never reach a position of negative equity, which can happen in both the stock market for traders who are maxed out on margin as well as the futures market. There is an interesting way to lake advantage of this. People can open up FX accounts at different dealere and deposit a small portion of their overall trading capital. They can go long a currency in one account, short the same currency in another account, and just leave both accounts alonet with no stops or targets. While the two positions are open, they will offset each other equally, so it's a perfect hedge. If the currency then gets into a prolonged move, one of the accounts will get closed when the account equity gets to zero. At this point the trader is still breakeven on the trade because the losses in one account are offset by gains in another account. If the currency then continues to trend in the open account, the trader benefits from already being in die move I don't do this personally, but a few traders I know have done this and have had instances where accounts in the neighborhood of $20,000 have turned into accounts in the neighborhood of $400,000 on the backs of a couple of great moves. The key is they take the positions and literally forget about them for six months. The currency just has to trend one way or the other. This obviously involves some luckt and I wouldn't call it a core strategy of any wise retirement plan. My favorite reason for trading the forex markets is that they trend better than any other markets. Once a market gets going, it can easily trend for weeks and months in a nice steady march higher or lower. Unlike the stock market, which has been consolidating for the past few years, there are real trends happening all of the time in the forex markets. Stock market traders talk of missing the big moves of the dot.com days. Today the dot.com moves are happening in the forex markets.

The biggest complaint I've heard people say about forex is that the FX dealers are taking the other side of their trade. I usually hear this from people who have overtraded their account and have lost all their money. This is really true in any marketsomebody is always taking the other side of your trade. In my experience with forex, however, it is the high-frequency day traders who don't last. On the other hand, the traders who place smaller positions and let them work out over the course of a few days to a few weeks or longer do well As in any trade, market makers can mess with a position in the very short term, but over the course of a swing trade they have no power. When George Soros was short the British pound and was told that the British government had allocated the equivalent of 20 billion U.S. dollars to stabilize the currency, he shrugged and said, *That will help them for 30 minutes. Then what are they going to do? He made over a billion dollars on that trade.

THIS IS HOW MOVES ARE MEASURED

Forex trading, like many new things, is confusing yet simple. If a quote for the EUR/USD is 1.23, it simply means that 1 euro is equal to 1.23 U.S. dollars. A quote for the USD/JPY at 109.50 simply means that 1 U.S. dollar is equal to 109.50 Japanese yen (see Fig. 4.8).

Forex markets move in what are called pips. A pip (price interest point) is the smallest unit of price for any foreign currency.

EUR/USD trading from 1,2300 to 1.2301 = a gain of 1 pip

USD/JPY trading from 108.01 to 108,09 = a gain of 8 pips

GBP/USD trading from 1.8302 to 1.8311 = a gain of 9 pips

EUR/USD trading from 1.2300 to 1,2401 = a gain of 101 pips

A full one-cent move in the currency is equal to 100 pips.

What this boils down to is thisany forex contract that ends in USD is worth $10 per pip. or $1,000 for a full one-cent move (100 pips). The euro, for example, moves in a range of fiO to I 50 pips per day. This $ 10 per pip calculation would include the euro (EUR/USD), pound (GBP/USD), etc. These are the contracts most people trade. It gets a little trickier when this is not the case. For example, on March 29, 2005, a USD/JPY contract and any additional contracts that end in JPY are going to be wonh $9.35 per pip. On this same day, any contract that ends in CHF is going to be $8.29 per pip. The EUR/GBP is going to be $18.70 per pip, and so on, based on the various exchange rates, Again, most traders seem to focus on currencies that end in USD, so the $10 per pip has become a universal number when talking about forex. There is also a mini-version of these contracts in which each pip is worth $ 1.

What Happens to Currencies When Prices Change

If a quote for the USD/JPY is at 108.00, it means that il takes 1 U.S. dollar to buy 108 Japanese yen. If the price moves to 109.00, this means that the yen has weakened against the dollar, because it now requires more yen to obtain the same one U.S. dollar. If the EUR/USD is trading at 1.20, this means that one euro can buy 1.20 U.S. dollars. A move to 1.22 means that the euro has strengthened against the U.S, dollar because it requires more USD to obtain the same one euro.

HOW TO HEDGE YOUR OWN LIFE IN THE FOREX MARKETS

There are many trade setups for fores that work in smaller time frames, and I talk more about these setups later in the book. However, the fascinating thing about the forex market is traders' ability to participate in world events on different scales and essentially hedge their life.

For example, my wife and I visited Spain, France, and Italy from December 18, 2003, through January 14,2004. (Yes, it's colder then, but there aren't any lines.) Excluding airfare, I added up estimated costs in euros. On the day we booked this trip on September 30, 2003, the exchange rate was 1.1675. Based on this rate, I estimated that the trip would cost U.S. $15,000. This cost would fall if the euro fell, but would increase if the price of the euro also increased. [ pulled up a chart (see Fig. 4.9).

In this figure, point 2 shows where the market was trading on the day we booked the trip. Point 1 shows the all-time highs at 1.1932 that were hit on May 27, 2003. For our trip, I wanted the euro to fall so our costs would also fall. However, just because I wanted the euro to fall didn't mean that it would. If the euro took off, our trip could get considerably more expensive. Since a regular contract represents $100,000 worth of U.S. currency, it was much too large to use as a hedge. The minis each represent $10,000 worth of U.S. currency, so this is where 1 looked to set up a position.

Looking at the chart on this day, I decided to place a buy stop order for two mini EUR/USD contracts at 1.1933, one pip above the all-time highs. This buy stop order means that 1 will get into the market only when it trades up and through 1.1933. Instead of getting stopped out of a short position, I would be getting stopped into a long position since I was currently flat.

[ decided to do this at this higher level, instead of at the immediate price, in case the euro did roll over and fall. If it fell from when we booked our tickets, it would be a plus for us, as our trip would get cheaper with each decline. However, if the euro broke out to new highs, it could ignite a huge rally and really inflate our trip budget. One mini-contract represents $10,000, so I was essentially hedging $20,000 in U.S. currency with the two mini-contracts. Since I underestimated how much the trip would cost, this actually worked out perfectly in the end.

On November 18, almost two months later, my buy stop was hit at point 3. By the time we left for our trip at point 4, the euro had moved over 500 pips from my entry. By the time we got home at point 5,1 closed out the position at 1.2665, a gain of 732 pips. Two mini-contracts equaled a gain of $1,464, which paid for the increased exchange rate we had to pay while we were over there. Had the euro hit my buy stop and then sold off to 1.10, [ would have lost money on the trade, but this would have been offset by the money saved during the trip because of the more favorable exchange rate. Had 1 set this up as a normal trade using five regular-sized contracts, a 732-pip move would have equaled $36,600.

There are many other ways people can hedge their life in the forex markets. For people who think the value of the U .S. dollar is going to continue to decl ine and are worried about the value of their savings deteriorating against other world currencies, they can hedge their savings account by going long the EUR/USD. IF a person has $240,000 in savings, he or she can buy two regular contracts and four mini-contracts, and have a perfect hedge.

FOR TRADERS, THIS IS ALL YOU NEED TO KNOW

The biggest question traders always ask is, How much money do 1 need to buy one contract, and what happens after I buy it? For forex, it can vary based on your broker, but in general to buy one regular-sized contract, a trader will need about $1,000, and to buy a mini-contract, a trader will need about $100. This depends on the leverage being offered by the broker. A typical scenario is that traders will open up a small mini-account with $500 and get 200 to 1 leverage. They will then buy two mini EUR/USD contracts, and this will cost them $130. Their $500 account now has $371 in available equity, after the $129 in margin has been deducted. In the worst case scenario (which can happen), the trade goes completely wrong. It will have to move 185 pips against the traders (which wipes out their $371 in equity) before their position is closed out by the dealerprovided they have zero balance protection. The $130 in margin that was used to establish the position is returned to the account, bringing the balance down from $500 to $130. If the trade works out and gains 55 pips on two mini-contracts and is sold, then this $110 profit is put into the account, along with the initial margin, and the total balance then becomes $610, less transaction costs. If a trader is using the big contracts in this scenario, everything is the same except it is times 10.

How much does this cost in terms of transaction fees? Well, the spread is typically three pips wide in the EUR/USD for most FX dealers, which is what the trader pays instead of commissions. It's still a transaction costanyone who calls this commission free trading should be hanged. For the minis it equates to $3 per side, and for the regular contracts its $30 per side. The spreads will continue to narrow, and this will get cheaper. This isn't much different from trading the ES. In this case, the spread is $ 12.50. Add, say, an $8 round tum cost and now you are really trading $20.50 a round tum, A trader should always add the spread into their transaction costs-

I personally spend most of my time watching the following 8 currency pairs. In parenthesis I have listed their TradeStation quote symbol, eSignal quote symbol, and the nickname many traders use when referring to the contract:

1. EUR/USD (Euro) TS; EURUSD eSignal: EUR A0-FX

2. GPBflJSD (Cable) TS: GPBUSD eSignal: GBP A0-FX

3. AUD/USD (Aussie) TS: AUDUSD eSignal: AUD A0-FX

4. USD/JPY (Dollar Yen) TS: USDJPY eSignal: JPY AO-FX

5. USDfCHF (Swissy) TS: USDCHF eSignal: CHF AO-FX

6. USD/CAD (Looniereference to the Loonie Bird on the $1.00 Canadian coin) TS:

USDCAD eSignal; CAD AO-FX

7. EUR/GBP (Euro Sterling) TS: EURGBP eSignal: EURGPB AO-FX

8. EUR/JPY (Euro Yen) TS: EURJPY eSignal: EURJPY AO-FX

Although there are many other minor currency pairs, these eight will provide plenty of trading opportunities, and all tend to move together. It is also important to have a chart of the dollar composite index ($DXY on TradeStation, $DXC on eSignal). In general, if the dollar index is moving higher, then USD/JPY, USE/CHF, and USD/CAD arc also moving higher. This action will push EUR/USD, GPB/USD and AUD/USD lower. When the financial news' networks mention that Warren Buffett is short the dollar he is realty long EUR/USD, GPB/USD and/or AUS/USD as well as short the USD/CHF, USD/JPY, and/or USD/CAD. If the dollar goes lower, then the first three currency pairs will move opposite of the dollar and go higher, and the last three currency pairs will move with the dollar lower. There isn'l a straight dollar currency to go long or short. They all trade in pairs against each other. For more advanced information on the forex markets and how they work together, visit www.tradeihemarkets.com or www.razorforex.com.

Now that we understand how all these different markets work and the trading opportunities they represent, let's jump in and review what I start looking at with the opening bell of the regular stock market session.



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Previous Issues

200509-07Traders need a little less lhan $2,000 in iheir account to be able to trade one note contract

200509-06A trader can watch the 30 stocks in the Dow to get a very good idea of how the index is acting or is going to act

200509-05Each market is made up of different types of traders

200509-04The new generation of trading software, and all traders should seriously consider such a system

200509-03If the trader's data feed goes down, much of what already has been discussed will help

200509-02This strategy of having distinct accounts for day trading and swing trading helps me to keep the different trade setups separate

200509-01Many traders know that Reminiscences of a Stock Operator by Edwin Lefevre is a book about Jesse Livermore, the famed trader who made approximately $100 million

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