Irish Debt Concerns Grow Despite Well Subscribed Portuguese Debt Auction

The Greenback's resilience against all the other major currencies last week came about in part due to the uncertainty in the European Union over Irish debt as Credit Default Swaps for Irish sovereign debt topped and remained above 600 bps last week. CDSs for the debt of some other European countries also widened considerably.
Concerns in the financial markets over the possible Irish debt situation prompted a wave of risk aversion which gave the Greenback considerable strength even against the commodity currencies in spite of gold making a new all time high yet again last Tuesday.
The Euro fell considerably against the Greenback from the beginning of the week as EURUSD came off of its weekly high of 1.4085 after the market was abuzz with talk of a Greek style default on Irish debt.

Euro Finds Support After Portuguese Bond Auction

The rate then consolidated somewhat on Wednesday after the results of a Portuguese bond auction raised 1.24B Euros in six and ten year bonds, which was at the top end of the expected range of 0.75B - 1.25B Euros.
Alberto Soares, the President of Portugal's debt agency stated after the auction that,
"Demand was there, yields were below the secondary market, so that's why we decided to go to the top of the range."
 Also, when addressing speculation that Portugal might tap the EU for another bailout, Soares added that,
"From the point of view of the Portuguese debt management agency, were committed to maintaining our funding through the market."

LCH Clearnet Requires Additional Margin for Irish Sovereign Debt Positions

Also on Wednesday, London clearinghouse LCH.Clearnet announced that it had decided to require an additional 15% margin on positions of Irish sovereign debt.
This worrisome news prompted a bank run in Ireland on the same day and saw the Euro extend its decline versus the Greenback even further.

Ireland Announces Austerity Package but Bailout Rumors Persist

On Thursday, Ireland announced that it would increase its spending cuts package and tax increases by more than double in order to bring down its huge budget deficit.
This news sent the yield on the Irish 10 year bond up to 9 percent on Friday, which further widened the spread against the comparable German Bunds that are currently yielding only 2.5 percent.
Directly affected by the Irish debacle were the borrowing costs in Spain, Greece and Portugal, which all increased considerably as investors grew wary of the possibility that these financially troubled countries may also default on their debt.
Nevertheless, the prospects of Ireland bringing down its budget deficit to the target level of 3 percent of GDP by 2014 seems somewhat unlikely since the Irish deficit currently runs at 32 percent of GDP.
Friday then saw the Euro make its weekly low of 1.3573 after the yield on Irish 10 year bonds soared to over nine percent, and rumors persisted in the market that Ireland was to receive an 80B Euro bailout package from the IMF and the EU.

Commodity Currencies Correct Sharply Lower as Risk Aversion Returns

The Australian and New Zealand Dollars were among the biggest losers against the U.S. Dollar last week, after having gained considerably over the previous two weeks.
Down over -2.9% last week was the Australian Dollar, which had boldly traded over the psychological parity level for most of the previous week. The New Zealand Dollar, which gained +4.9% over the previous week, lost most of its gains by dropping -2.9% last week as the Greenback rose against all the major currencies.
The Canadian Dollar was the best overall performer among the commodity dollars, losing only -0.9% against the Greenback last week. The Loonie gained support from rising crude oil prices which topped $88 per barrel on Thursday, only to sell off sharply on Friday to end the week lower.

Australian Unemployment Jumps to 5.4 Percent

Besides risk aversion, the Aussie's decline was also attributed in part to some mixed Australian economic numbers released last week.
Perhaps the most significant of the economic numbers which affected the Aussie was an increase in the Australian Unemployment Rate that came out at 5.4% versus an expected 5.0%. The rate rose despite the Australian Employment Change showing a favorable increase of +29.7K versus the +20.2K that the market was expecting.
The employment number was significant in the wake of the RBA's November rate decision, which saw the RBA surprise the market and raise its benchmark Cash Rate to 4.75 percent earlier in the month.
Other economic numbers which adversely affected the Australian Dollar last week were the Westpac Consumer Sentiment Survey which came out at a dismal -5.3% versus a previous reading of an increase of +3.3%, and the NAB Business Confidence Survey coming out at 8 - the lowest the number has been in a year - versus a previous reading of 10.

Kiwi Gives Back Most of its Gains from Last Week

The Kiwi down move seen last week was partly corrective, although the large decline was due in part to risk aversion in the currency market resulting from the European debt situation that neutralized the otherwise favorable fundamentals for New Zealand that were released last week.
Furthermore, last Tuesday saw the RBNZ release its Financial Stability Report outlining the central banks implementing of the Basel III agreement and the creation of the Financial Markets Authority.
In his closing statement, RBNZ Governor Bollard wrote that,
"Non-performing loans and profitability have stabilized over recent months, as reflected by an unchanged rating for 'capital and profitability'. There have been ongoing improvements in the funding position of the New Zealand banking system, as indicated by material improvements in the core funding ratio. Nevertheless, funding markets remain somewhat fragile, as indicated by the 'funding and liquidity' dimension still sitting slightly above normal."

Gold Jumps to $1420 as Traders Give up on the Financial System, and the USD China and USD Continue their Squabbles

Today the USD was higher against most other currencies, while Asian stocks were mixed, and the U.S. market was lower as this is being written. Today is not heavy on data, but markets have found enough to focus on in Europe's ongoing sovereign debt problems, and continuing comments by the Chinese about the recklessness of U.S. policy.
Meanwhile gold was as high $1422 per ounce, extending the uptrend in place since late August in accordance with the seasonal patterns that we have become used to over the years. Silver has also been charging higher, and reaching the highest level of the past 30 years or so in recent days' trading.

China needs a stable USD, officials say

The Chinese news agency Xinhua is publishing an excited article today about the issuance of reserve currencies, calling the U.S. monetary policy irresponsible (!), and demanding that the issuer of the reserve currency report to G-20 before undertaking major directional changes in policy. This comes in harmony with the recent comments by China's Deputy Foreign Minister, today's statements by the FM himself, and a long list of comments by various lower ranking officials to the effect that the U.S. has got some explanation to do even as it keeps blaming China on the yuan issue. In any case, since it is generally agreed that Asian currencies need to appreciate in order to clear the imbalances of the past decades, and to help manage the shift of lifestyles and wealth from the U.S. to the Far East, it is hard to comprehend what exactly the Chinese foresee as the alternative growth path for the world economy. Indeed, their proposed solution seems to be "business as usual", drunk as they are with their bubbles, but to proceed with no change really seems like a non-starter at this stage.
We do not in any way suggest that the U.S. administration is any more competent than the Chinese. We argue instead that both are equally clueless, but since markets and commentators generally enjoy criticizing the Federal Reserve and the Chairman more, we prefer to focus on the Chinese here, because, after all, this whole mess is the collective masterpiece of these two parties, and neither has any right to blame the other for its problems. Of course, that doesn't mean that certain ideas cannot have greater credibility than others. Yuan appreciation issue is one of those rare situations where the U.S. is right. The problem is that the Chinese are cornered politically and economically, and don't possess the freedom to do what they have to do sooner or later. This makes it appear as the intransigent side, but the truth is more complicated.
In other statements today, the state manager of China's FX reserves, SAFE, has announced new measures to restrict hot money inflows to the country. To limit the cash-geyser that is flooding the country, SAFE will "strictly enforce" quotas already in place that restrict short-term external borrowing of Chinese insitutions, and will tighten oversight of offshore investors' activities, in addition to managing the repatriation activities of Chinese companies carefully. A former member of the Standing Committee of the National People's Congress, and the chairman of the Chinese national pension fund also mentioned the Fed's QE2 today, focusing on the inevitability of hot money flows leading to inflation and appreciation pressures in the developing world. And as if to confirm the seriousness of the problem, today's sale of CNY3 billion fixed-rate 3-yr bonds was nearly 17 times oversubscribed by investors hungry for Chinese assets, bringing in demand of some CNY50 billion according to reports.
Yet not much should be said about these statements. The authorities are just as helpless as the majority of traders are in managing bubbles profitably. And nobody is too excited about SAFE "strictly managing" inflows of capital into the country, since, as the PBOC Governor admits, expectations of appreciation, and the interest gap between China and the developed world make the country too attractive to capital flows. With the existing positioning of international relations, and the external balance of the PRC, it is not possible to reverse the appreciation trend, and as such, finishing the task quickly may in the end help the government rein in speculative demand for the currency over the longer term, in spite of the difficulties that the economy will have to face as an immediate consequence.
Today the yuan was fixed at 6.6580 vs. yesterday's 6.6692. There are some rumors that the PBOC may once again raise reserve requirements for banks soon.

Greece auctions sees demand at higher interest, Irish Cds and bond spreads widen further

Inflation in Germany was released today at 1.3 y-on-y, confirming the belief that in spite of the excellent performance of the country over the past quarters, consumer demand remains lacklustre, and the risk of deflation is still here. This interpretation was confirmed by another release that showed comsumer insolvencies rising by 10.7% compared to the same period of last year. It is hard to see the ECB removing financial accommodation against this background anytime soon. In fact, as readers would know, they are busy pumping cash into the bond markets of the periphery, so any talk about normalization runs the risk of being regarded as hypocrisy by markets.
Ireland's CDS were once again higher today. Sentiment later in the day was improved somewhat by Greece's auction of 26-week, Eur300m bills which effected a bid-to-cover ratio of 5.15, confirming that high yield can still boost the attractiveness of the nation's debt. Nonetheless, rates were higher at 4.82% vs. the previous 4.54%. In short, there is cash for Greece, but at a suitable price.
By contrast to all these, 3-month Euribor eased a little to 1.049% from yesterday's 1.050. However, we still expect the rate to go alot higher from the current levels unless the ECB intervenes in the periphery aggressively in the coming weeks.
Today is a continuation of the past few weeks in almost every aspect. The one significant development is gold's rise above $1400. We learn that the 5-week average is located on the 1420 level, so the next few days will be critical for short-term price action in the precious metal.

Stocks Around the World Sell off While Worries About FX Tensions and European Sovereign Debt

Yesterday's decision by LCH.Clearnet to require an additional 15% of margin on positions of Irish sovereign debt has been a catalyst to the downtrend in place for a while in risky assets, and we saw bourses in the red around the world, with Asia being a rare point of strength. North and South America, Europe, and most emerging markets saw significant declines in share prices. In contrast, Japanese, Australian, Chinese, and HK bourses were higher, with the strongest gains seen in Chinese markets, while Thailand, and Korea (-2.7%) were lower with the rest of the world with energy firms and banks reported as the main source of strength. On data front, China data released today in Japan has shown machinery orders falling by about 10 percent in September following two months of strong increases, yet Nikkei was higher after the USD rose around the world on negative risk sentiment.
As expressed here before, we believe that the Fed decision of last week is in fact going to be the starting point of a sharp correction in markets, on the basis of the familiar concept of "buy the rumor, sell the fact". However at this point it is almost impossible to adopt a bullish posture on the U.S. with both the Treasury and the Fed clearly committed to depreciating the USD. Geithner's recent comments that the U.S. never aims to manipulate the currency are but exercises on definitions and theory, with QE2 a dominant concern in the minds of traders and authorities. At the same time, we doubt that the FX market presents the most suitable environment for dollar-bearish positions, since most nations have very little to gain from a rapid depreciation, and will not hesitate to take drastic action at times to reverse or slow the trend, resulting in costly mistakes and misunderstandings among traders. Commodities are not regulated or controlled by anyone, so speculators have far greater freedom in drawing them in any direction they desire. In particular, gold, among all commodities, has the added benefit of being regarded as an alternative currency, and presents an exceptionally good choice for the exploitation of the USD trend.

Eurozone debt market in crisis mode, turmoil spreads

As readers are probably aware, the spreads of Irish, Portuguese, Italian, Spanish, Greek and Belgian bonds against German bunds were all wider today. To reduce tensions, the ECB is known to have bought some Eur711 billion of Eurozone debt, which is still small in comparison to peak numbers of May, and there is ample room for further bond purchases before the market is cowed, if at all, to stop shorting the periphery.

In other developments, correlation among various Irish banks has been rising, with today's reports showing that Allied Irish, and Bank of Ireland reaching similar CDS levels to those suffered by the embattled Anglo-Irish.
3-month Euribor was back up at 1.050% today after falling for the past few days.

PBOC watching inflation closely

Vice Governor of the Chinese central bank, Hu XiaoLian, has said today that the bank is carefully watching inflation trends, and that they will use monetary policy tools "flexibly" in order to control them. Today's numbers which showed inflation jumping to a two-year high of 4.4% last month from the previous 3.6% lie behind the decision of the PBOC to raise the reserve requirement ratio yesterday, and news sources also report that about CNY30 billion has been removed from the market in monetary operations during this week. Nonetheless, unless they are implemented in the framework of a tightening policy that will accompany the rise of the currency, they are unlikely to lead to a meaningful improvement in the excess liquidity situation of domestic markets. After all, with the USDCNY pointed lower, any small amount withdrawn through traditional means will be more than made up by aggressive inflows created by appreciation expectations. We doubt that inflation is a serious problem for China for now, but the real estate market, and the continuing rapid growth of credit (with M2 rising at 19.3% in October) pose issues that must be tackled decisively if China hopes to avert a costly and unpredictable downturn.
Meanwhile, Asian markets got a significant boost from Moody's decision to upgrade China's long term sovereign credit rating to AA3, and maintaining a positive outlook. In yet another highly aggressive fixing, the yuan was set at 6.6242 from 6.6450 yesterday, while In Korea, large state-owned corporations are reported to be active in the FX market as the government attempts to prevent the rapid appreciation of the won.

Central Bank Monitor: Last Week’s BOJ, RBNZ, BOE and ECB Reports

Central bank activity last week had the world's central banks taking a break from any major rate decisions with the only activity being four major central banks releasing reports of varying impact.
The central bank reports out last week included:

• The Bank of Japan's Monthly Report on Monday,
• The RBNZ's Financial Stability Report on Tuesday,
• The Bank of England's monthly Inflation Report on Wednesday and
• The ECB's Monthly Bulletin on Thursday.

BOJ's Monthly Report

The Japanese central bank's Monthly Report indicated that the BOJ will continue leaving rates at the record low levels of 0.0% to 0.10%. While the report states that exports will continue flat for the time being, they are expected to increase "moderately again".
The report addresses credit demand specifically and noted that Japanese companies,
"need to fund working capital and fixed investment has declined, and some firms have reduced the on-hand liquidity that they had accumulated. Against this backdrop, bank lending has declined on a year-on-year basis. The amount outstanding of corporate bonds has exceeded the previous year's level, while that of CP has declined. In these circumstances, the financial positions of firms have continued to show signs of improvement as a whole".
The report also noted the increase in the value of the Yen versus the U.S. Dollar, which continues to adversely affect Japanese exports. Nevertheless, the report was fairly optimistic, stating that,
"Japan's economy is likely to grow at a slower pace for some time, but is expected to return to a moderate recovery path thereafter."
Perhaps in response, the Japanese Yen staged a possible reversal last week, losing -1.3% against the U.S. Dollar. An increase in risk aversion also contributed to this Dollar strength.

The RBNZ's Financial Stability Report

The RBNZ issued its Financial Stability Report on Tuesday where, among other items, the observance of the Basel III agreement on bank capital reforms will be implemented by the RBNZ. This will include new standards and a strengthening of definitions for regulatory capital, as well as the introduction of new buffers to help banks withstand economic and financial stress.
In addition to the Basel III measures, the RBNZ will also create the Financial Markets Authority or FMA, which was introduced in a bill to the New Zealand House of Parliament on September 14^th, 2010.
The bill creating the FMA sets out the objectives and functions of the new regulating agency which will replace the Securities Commission and adopt some of the functions of the Ministry of Economic Development which will include the functions of the Government Actuary.
The FMA will be chiefly responsible for the regulation of securities including those issued by companies regulated by the RBNZ. The central bank will maintain close contact with the FMA and will exchange information about emerging risks in the financial markets.
In the report's closing comment, RBNZ Governor Allan Bollard stated that,
"Non-performing loans and profitability have stabilized over recent months, as reflected by an unchanged rating for 'capital and profitability'. There have been ongoing improvements in the funding position of the New Zealand banking system, as indicated by material improvements in the core funding ratio. Nevertheless, funding markets remain somewhat fragile, as indicated by the 'funding and liquidity' dimension still sitting slightly above normal."

BOE's Inflation Report Calls U.K. Economic Growth "Highly Uncertain"

The Bank of England's Inflation Report for November gave a fairly optimistic assessment for the economy of the United Kingdom. Nevertheless, the conclusions of the central bank's report were highly qualified and warned that,
"growth may slow in the short term" and that the "outlook for growth is highly uncertain".
The report also notes that U.K. GDP growth was down considerably in the third quarter of 2010, although the central bank expects the recovery to be ongoing in the fourth quarter. Nevertheless, the BOE warned that,
"the strength of the recovery is likely to be tempered by the fiscal consolidation and the reduced availability of credit."
As far as inflation is concerned, the outlook for inflation in the U.K. poses "substantial risks" due to prolonged unemployment or "spare capacity", as it is referred to in the report.
The British central bank also anticipates that the level of inflation could increase considerably after the implementation of the January, 2011 VAT tax increase and the rising prices of commodities and other "traded goods and services".
Furthermore, citing the XpertHR research relating to private sector wage prospects, the BOE stated in their report that,
"The recent elevated rate of inflation could put upward pressure on pay if employees seek compensation for the higher cost of living. According to the 2010 XpertHR Pay Prospects Survey, around 60% of businesses take account of some measure of inflation during pay negotiations. But the survey also suggests that affordability matters, making it less likely that companies will award pay increases that are not linked to improvements in productivity and profitability. Private sector respondents to the survey expect the median pay settlement in 2010/11 to be 2%, the same as their expectation in 2009/10."
The BOE concluded in their report that the recovery in U.K. productivity might be hampered by the slack in the labor market which will tend to keep pay growth "relatively subdued".

ECB's Monthly Report: "Appropriate" Monetary Policy

In the wake of serious debt problems suspected for Ireland and other cash strapped European economies, the ECB issued its Monthly Report for November. In its report, the ECB stated that it considers its monetary policy "appropriate" and that it includes the flexibility to handle future situations as they may arise.
The European central bank also expects inflation in the EU to continue growing at a moderate pace, with the inflation rate reaching 1.5% in 2010 and 2011 while rising slightly in 2012 to 1.6%. The 2010 and 2011 numbers were revised upwards by +0.1%, while the 2012 inflation number was revised down by -0.1%.
Growth for the Eurozone was expected to be +1.6% in 2010, upwardly revised by +0.5% from the previous estimate, although next year's anticipated growth rate declined to +1.5% and 2012's growth rate rose to +1.7%.
Furthermore, the ECB forecasts that unemployment will continue to be above 10.1% through 2010, with the level dropping to 10% in 2011 and dropping considerably by the end of 2012 to 9.6%.

Next Week's Central Bank Activity

Next week's central bank activity is very light, with no major rate decisions being made by the major central banks that usually affect the forex market. Nevertheless, some meeting minutes will be released that could spark some interest.
The week begins with the RBA's Monetary Policy Meeting Minutes on Monday, followed by the BOE Inflation Letter tentatively scheduled for release on Tuesday.
On Wednesday, the BOE's Monetary Policy Committee Meeting Minutes will be released and the Bank of Canada's Review is due out on Thursday.

Getting started — choose a forex broker and the right kind of account

In the past, currencies were traded on the phone, and banks prefer audio contact between counter parties as a means of building trust even today, but the individual trader will have all of his needs satisfied simply by opening an account with an online forex broker. Once one decides to trade currencies, the first requirement will be the opening of an account.
There are many brokers to choose from, and consequently there's a lot of competition for customers among the various firms. What this means is that there's a wide array of different offers suitable to everyone's expectations, and it's a good idea to carefully screen the brokers' terms and conditions before coming to a final decision and committing capital. Calls to the customer service, questions about the financial status of the firm, its registration status are all valid and the prospective trader will find that in most cases the reliable brokers have no problem about supplying this kind of information.
The forex market for individual clients, termed the retail forex market, is a relatively recent development. In the early days of retail forex some brokers would misquote prices, and engage in unethical practices by exploiting their knowledge of clients' trades (such as the infamous stop hunting). There were even scandals, and bankruptcies due to fraud, the largest and most memorable of which is the collapse of commodities and futures broker Refco in 2005.
Fortunately, the retail forex market has come a long way since those days, and there are many regulated brokers with open and clean business practices. There are a number of firms today with records going back to about ten years or more, and the prospective trader will not have much difficulty in finding one that matches his needs among them.

Account types

But before a brokerage firm is chosen , the first decision to be made will be about the type of account and the amount of leverage that we like..The previous chapters have discussed leverage and undercapitalization, and the new trader should make sure that he understands these subjects before deciding on the type of his new account. Some firms offer maximum leverage of up to 400 times the deposited margin, and there are differing minimum deposit requirements at different forex brokers. In general mini-sized accounts (those typically offered to beginners) offer leverage at a maximum of 100, and the minimum deposit size is around 100 USD. There are also firms that don't have a minimum deposit requirement, and the trader is free to decide how much (or how little) he wishes to risk on his early encounters with the forex market.
If you're new to forex, it's a good idea to embark on your trading journey by opening a mini account. As we discussed before, success of the trader is measured in pips, not the actual dollar amount gained or lost, and it's absolutely possible to have a very good idea on how successful you may be with a standard account by first trading small sums in the mini.
The forex market is diverse, and both the cautious trader, and the rodeo rider are likely to find account packages that suit their tastes. Remember that the market isn't going anywhere, you can take your time and examine as many brokers and account offers as you like before you decide to participate in this rewarding, educating and engaging market.

Final Word

Trading the forex market is no riskier than trading stocks or commodity futures. Apart from the usual risks that are present in every market (the broker going bankrupt, natural disasters disrupting electronic trading, and so on) the risks related to leverage, and capitalization that give the forex market a bad name are controlled entirely by the trader, and there's no reason to be wary of trading forex once you're making sure that you don't risk more than what is sensible, and are employing proper money management methods.
In choosing a forex broker, as with a stock broker, or commodities broker, the trader is strongly advised to stick to those regulated by the authorities: In the US, CFTC (Commodity Futures Trading Commission) and NFA (National Futures Association) enforce the rules and regulations that forex brokers must abide by, and the trader should always make sure that his broker is regulated and controlled by these institutions. Of course, even the most stringent regulations will not work very well in a nation of which the financial infrastructure is not well-developed; a broker based in a place like Cyprus, or Ukraine is obviously not the best choice if we want to ensure that its conduct is carefully scrutinized.
The broker trading against clients is always a worry in minds of the beginning and experienced traders alike. To minimize the risk of this happening, it's possible to only choose those brokers that offer the no-dealing desk, and straight through processing options. The NDD (no dealing desk) ensures that trades are fully automated, minimizing the risk that the broker will misquote prices and widen spreads unfairly through deals mediated by phone operators. STA (straight through processing) ensures that there are no manual interventions in the electronic process as customer trades are routed from the client's software to the banks and liquidity providers.

How to become successful in trading forex?

You've read through all (or most of) the articles, have gone through all the warnings and precautions about unrealistic expectations, reckless and risky practices, and compulsive trading, and what not, and you are still interested in forex? You're not intimidated by sensible, realistic, and honest discourse about what can and cannot be achieved by a currency trader. Nor are you a dweller of cloud-cuckoo-land: you don't seem to expect great returns for no effort.
Congratulations, that shows that you've got the right attitude, and are well-placed to step into the higher grades of your education. To scale a mountain is effortful, but the most spectacular view can only be enjoyed at the top. And so if you were willing to put up with all the bothersome talk on what is dangerous about forex, now you deserve to hear what is good, and just not good, but magnificent and awesome about participating in this wonderful market.
Forex is serious business, and is no place for fools. True, those who just want to gamble away with their money would serve themselves better at casinos than forex brokers. And no, currency trading is not a game, a pastime, or a sport for those with a lot of leisure time to spare. But forex is by far the most lucrative and profitable financial business for the patient, reasonable, and diligent individual who is willing to invest the time and energy necessary for success. And yes, it is possible to achieve spectacular returns in this market, if you're ready to pay for it: you're going to devote a significant amount of time to learn the rules and better your skills; you'll have to tame your pride when you achieve unbelievable returns on your investments, and suppress your fears when relatively harmless but inevitable losses threaten your determination for success. But in the end, the markets are driven by facts, and if you follow them for profit, the logical consequence of your actions will be profits, nothing more, and nothing less.
Are you ready for a career in which you make the choices, you take the risks, and you bear the risks and rewards for your decisions? Is your passion for success strong and persistent enough to survive the foolishness of the herd, and the stridency of the mass media? Is your drive for achievement powerful enough to lead you through the clouds of uncertainty by persevering on what you know to be right, what you know to have been proven right through the ages?
Can you study and think for your own future? Do you value an independent mind, and critical thinking as qualities necessary for success in any serious endeavor? Are you aware of the role of persistence and patience in achieving your goals?
If your answer to the above is a yes, then you have the right frame of mind for a perfect trader. Realism is the trader's philosophy: he's as incredulous of those who believe Warren Buffet or Jim Rogers to be superhuman, infallible prophets as he's of those who sell the super-duper insuperable methodology of the century, or the top-secret indicator of the millennium for hundreds of dollars. Great success in trading, and certainly in currency trading is definitely possible; large profits, and dividends are surely achievable if we're willing to adjust our own characters, and improve our mentality to suit the task at hand.
One who thinks that he's a great genius who's always right about the markets would serve himself better by selling crystal balls: his arrogance is unlikely to last more than a few hours in the forex market. The seeker of the thrill of trading and the excitement of risky behavior would surely be happier bungee jumping than trading currencies; in any case, the chances of him making any profit in either activity is equally slim.
But if you don't mind appearing boring and conservative among your trading peers, if you don't enter this business for an ego-boost, or fame or social approval, but all you want is building a long-term fortune through hard work and study, then don't waste any time in making the decision. Forex is as valid as a business as any other activity; its only difference lies in the profit potential, and the great number of opportunities: it's almost impossible to miss the train of profit in this business. And no, don't think that you have to give up your full-time job, or to listen to Bloomberg all the time, subscribe to forex webcasts, and read 1000 boring volumes on technical analysis to achieve success. Quite the opposite, as we've been insisting throughout our study in these pages, the facts that drive economic events are in fact very simple and straightforward. But it takes understanding, logical thinking and strength of character to do what is right, and to profit from them, and that's all.
What can you expect from a career as an independent trader? Apart from profits and material gains, you'll be able to achieve financial and personal independence. The satisfaction in being self-employed and successful will only add to the pleasure you'll derive from being able to devote sufficient time to your friends and family. You will be taking part in creating the "big picture" along with thousands of big banks and brokerage houses, private and institutional investors and speculators, central banks and governments, and large international export and import firms and many others. And if you don't seek it on purpose, success will inevitably bring you recognition and respect among your peers too.
But the most important point is that the knowledge that you'll gain by trading forex, and having a good understanding of fundamental analysis and economical events, will grant you the literacy that will be useful to you throughout your life. Even if you are perfectly content with a non-trading career, and are happy with your full-time job with little understanding of where the economy is going, you'll eventually find out that to protect your nest egg, you do need to know more about economics and trading, and that by ignoring the risks related to currencies, you're not isolating yourself from them. Yes, many currency traders do stupid things, and speculators do often waste fortunes through overleveraging, and gambling, but that does not make the hard-working idiot who doesn't know how to protect his hard earned cash any smarter, does it?
Think of the hyper-inflation era in Germany. Or the collapse of the ruble in Russia in 1998. Or the Argentine default that wiped out the savings of millions of hard working people. Or of the recent collapse of the British pound which halved or erased fortunes in the course of about a year. Or of the dollar devaluation and high inflation in the US during the 70's. Think of how the Japanese exporters were bankrupted because they couldn't properly anticipate the rise of the yen in 2008. Or the currency crisis of the advanced Scandinavian nations in the 1990's. The list could really go on and on and on.
In all these nations, well-meaning, reasonable people had cocooned themselves into believing that ignorance about currency trading is wisdom, and diversifying your basic assets is speculation. But one morning they woke up to find their dreams crashed by economic realities. Their savings were halved or reduced by a third overnight, but who did they have other than themselves to blame if they hadn't taken the time to learn about risks that arise from ignorance about currencies and economics?
As with most things, the truth about forex is somewhere between the extremes: Forex is not a get-rich-quick scheme. But forex is not, as a lot of people seem to believe, a chance game, or just another name for online gambling either. Forex is a business, in some ways akin to investment, where your returns are proportional to the exertions that you make. If many of us find the workings of the currency markets unfathomable, let us remember that it is very hard to understand something without learning about it. The likes of George Soros, Jim Rogers, David Tice are not successful in this business due to exceptional superhuman skills. But they do know how to say no to herd psychology, how to refuse to be drawn into the vortex of bubbles and mania, and they know the value of a good medium-term investment based on facts, fundamentals, realities, rather than the teachings of gurus, political spin, well-wishing or doomsaying.
So let us summarize the points we've made in this text which we hope will be helpful in clarifying some of the worries and fears in the mind of the beginning trader. There's nothing exceptionally dangerous or difficult about the forex market in comparison to any other market; currencies usually don't go to zero, and the unleveraged account is in fact in no danger at all of being wiped out under normal circumstances. Stupidity, and reckless behavior or wrong in any business, any market, and any career, the forex market is no exception to this. Ignoring currency trading, dismissing forex as speculative gambling is as reckless as ignoring inflation and interest rates when making basic financial choices: Currencies are the building blocks of all kinds of economic activity, and there's little difference between taking a mortgage, or getting a credit card and hedging and managing your currency exposure through currency trading, as long as you do not overleverage, and don't do what you don't understand.
Great profits are possible in the forex market, great returns are achievable if you work hard and place logic and reason above emotion and sensation. If you think that you're capable of this, don't hesitate to begin your career today. If you already trade other markets, your experience in forex will widen your horizon, and enhance your skills and vision. If you're new to trading, this is the field where you'll get priceless education and invaluable experience by learning what moves the markets, and what drives economic developments. And on top of that, there lies the greatest reward of them all, the goal of all trading activity: material gain beyond anything you'd expect to be possible, if you're sane and sensible and will not gamble your assets away.
So if you feel that you're ready, go ahead. In the next chapter you'll find some details on how to open an account and begin your trading career.

Money management

Money management is about the proper application of the points we discussed: Capitalize the account sufficiently, do not overleverage, be disciplined about profit taking, and avoiding losses. There's nothing that difficult about doing this:. In general, decisiveness about one's plans, and prudence about taking risks will grant the patient trader success in a manner that might even be surprising for him. We must remember that a successful trader (unless his success is the result of extraordinary times and conditions) is not a flashy, exciting, boastful, or prodigious being: in many cases he's just a cautious, patient, modest, calm individual with good but not exceptional intelligence. His success is not the result of some very esoteric knowledge, revolutionary trading method, superhuman insight or intuition: but rather it's about diligence, hard work, and humility.
In the previous three parts we discussed what you, as a trader, should not do. In this section we'll take a brief look at the rules of money management.
Taking profit, and stopping losses are the two concepts that form the core a successful money management strategy; do not let greed erase your profits, and do not let pride prevent you from exiting a position that is proven to be wrong.
Entering a stop-loss or take-profit order is rather simple since in almost every trading software the program will prompt you to enter these orders as soon as you make a trade. In general, unless a trader has a clear schedule for the duration of his position based on fundamental analysis, a take-profit order is a must. A stop-loss order is almost always a must however, regardless of the basis of your analysis. Of course, the stop can be wide and tight at the discretion of the trader, and if there are good reasons behind the position you take in the first place, persistence against market swings can be appropriate and rewarding. The key point that distinguishes foolish persistence from logical resilience is that the fool persists because he's afraid of realizing losses, while the successful trader keeps to his position based on his analytical skills which were acquired after the realization of countless stop-loss orders during the learning process.
As with everything else, the trader must base his stop-losses, and take-profit orders on reason and logic, not on any kind of intuition, sixth sense, or emotional matter. The nature of forex is such that, due to constant volatility, even a well-conceived, and well-thought position will at some stage have to be in the red. Provided that we don't revise our initial purposes and schedules based on fear or euphoria, there's nothing wrong about that, and the trade should always be allowed to run its course, if the causes that led to our decision remain intact. If they are gone, the trade should be discarded too. But if the reasons are still valid, we shouldn't be afraid of unrealized losses: we placed the stop-loss order at where it is only to allow the position to run its course.
We mentioned before that regardless of our political or social persuasion, we must choose to be boring and conservative to achieve success in trading. Successful money management always aims at the preservation of capital, not necessarily great profits. We already detailed many of the reasons for that conviction, but another reason for our conservatism in taking risks is provided by the fact that it's a lot timelier and costlier to repair a mistake in comparison to the time it takes to commit it.
To give a very simple example: supposing that through reckless errors we lose about half of our account while trading, what would be the profit ratio we'd need to repair the mistake and get back to our beginning capital? Say we begin at 100 USD, lose ½ of it, and end up with 50 USD. We'll need to double our account just to get our losses back. In other words, for a fifty percent loss, we need a hundred percent profit, just to mend the damage caused by recklessness. With such facts standing against cavalier behavior in the markets, how can we avoid being conservative in trading?
Here are a number of time-tested methods the trader can employ in order to minimize his losses, and to achieve a moderately successful long-term career.

1. Do not take a trade if you can't back it with very convincing reasons. Your capital is precious, and it's limited. Opportunities in the forex market are limitless, and there's always another chance, if you (and your capital) are there to take it.
2. Do not trade on others' opinions, unless you understand and agree with them. We emphasized repeatedly that understanding what we do is the only way to gain confidence in our actions and minimizing the role of emotions, and we won't learn anything without understanding what we're doing.
3. Do not change your stop-loss, or take-profit points once you enter them. If the reasons behind the trade are gone, discard it. If they remain, let the trade run its course. Sit back, and forget about it. Concentrate on your education. Remember, panicking will not gain you a dime, and however long you stress about your success or failure, the market will do what it wants: you cannot influence its decisions. Stress will ruin your nerves and wreck your career, but won't better your chances of success, and will not save you from realizing losses on an erroneous position.
4. Do not expect your stop-loss order to absolve you from faulty analysis. The stop-loss order is not a safety valve to care for the mistakes of a lazy analyst, it's only a mechanism for recognizing that your analysis was wrong. Thus, if there's no good reason for the trade in the first place, the stop-loss order will be completely useless, regardless of how tight or wide it is..
5. Do not be enthusiastic, do not be fearful. Neither will help you. Forex is not a game, it's a business, and you have the responsibility for your choices. There's nothing magical about it.
6. Do not hurry to take profits, and tarry in liquidating an outdated position which the events have proven to be erroneous. Taking profits and stopping losses should both occur when the events provide the reasons for doing so, or the price action forces you to make choices.
7. Do not use high leverage and tight stops together, as that is the fastest path to a wiped out account. Instead employ low leverage to control your risk, and use stop-loss orders to manage volatility and price swings. To repeat, use low leverage to ensure that when you make a faulty analysis, the results are tolerable; and use wider stops to ensure that the position can absorb random price swings.
8. Do not average down, do not add funds to a losing position. If you have confidence that the position in red will eventually turn black, let it run its course, but do not ever add to it. Let time show you if your analysis was right or wrong, but do not attempt to fight the market by haughtily increasing the size of your losing position in order to average down the starting the price. Do not increase your risk while you're in the red.
9. Scale in. You can use multiple entry orders on top of each other as the trend moves in the direction you anticipate. As your first order makes a decent profit, set its stop-loss order at the entry price, enter a second order in the same direction, and repeat as long as the trade is successful.
10. Do not gamble. Do not use casino strategies in a financial business.

Undercapitalization

Undercapitalization is closely related to leverage, since, contrary to what many people believe, higher leverage actually increases risk-capital requirements. While the broker allows the client to control higher amounts through less initial capital through high leverage, because price swings are amplified in the process, the trader has to increase his capital that he deposits with the broker in order to survive periods of high volatility (in other words, wide price fluctuations).
Leverage increases the amount of loss or gain that a trader must experience. When the account is registering a positive unrealized return, leverage, and price fluctuations will not cause much problem since they're absorbed by the unrealized profit. When the account is in the red, however, undercapitalization becomes a problem, because even if the price eventually moves in the direction that the trader anticipated when opening the position, the amount of risk capital (in other words, margin) may not be enough to absorb the temporary fluctuations in the meantime.
What use is a successful prediction of market direction if you will never be able to survive the inevitable price fluctuations in between? What use is a complete and well-thought analysis if your capital allocation doesn't allow that analysis to bear its fruit?
Leverage amplifies volatility, and thus increases the initial deposit that must be maintained. But we had said that leverage allows the trader to control large sums through lesser initial deposits. What is the whole point of this circular game? So we reach back at what we argued at the opening of this section: Overleverage is wrong, and must not be used except in very unusual circumstances.

Trading psychology

Human beings are emotional creatures. We love, we hate, we adore, worship and despise, we can be enthusiastic, and we can be cautious. The canvass of our lives is colored by the palette of emotions, and indeed it's impossible to define a human being without depicting his emotional reactions to life's various occasions.
To the better or worse however, the canvass of profit is colorless. Neither the blush of euphoria, nor the blues of depression have any bearing on the landscape of forex. The successful trader should attempt to banish the shades of pride from his heart when he succeeds, because the market is fickle, and quick to punish those who foolishly feel that they have "cracked the code of forex". But neither should the trader have any feelings of shame or sadness about his failures: failures pave the path of experience leading to success, and as long as he recognizes that he's not ready to embark on big risks, he can survive any calamity that the forex market throws on him by simply risking little, and employing low leverage.
And yet an enormous number of speculators have been unable to act by these simple principles. Desperation and excitement, greed and fear delude many people even after experimentation and study, and success in trading can elude even a genius like Sir Isaac Newton, if he's unwilling to fight his emotions, be deaf to the crowd, and follow the dictates of logic.
So we expect the trader to reason rather than feel, and to calculate rather than dream. We want to take emotions out of the deal, and we don't just want to remove those such as fear, apprehension, worry, anxiety from our trading experience, but also excitement, courage, euphoria, and the other so-called positive emotions, in order that we don't overestimate our skills and power and take more risk than we should take. How do we achieve that?
The only way of achieving this aim, and successfully managing our psychological responses during trading is understanding what we do, and doing what we understand.
Once the trader is aware that his success is not a gift from angels, and his failure is not bad luck, or karma, but the logical consequence of wrong choices and indiscipline, there will be little cause for any emotional ruin, or gratification. Success in the market should be as simple as a good meal enjoyed after hard work. And failure should be as harmless as the bite of a mosquito, because risking more in a highly leveraged trade will never grant anyone success: it is always possible to begin with small sums, gain confidence while scaling-in, and even those small sums will translate to great profits in time. And if they do not, what would make us think that adding to the account or changing leverage will change our fortunes?
And I'd like to repeat here once more in response to the many online get-rich-quick schemes that proliferate: success in the forex market, and in fact in all financial markets, is not dependent on knowledge of some secret formula, or some magic indicator, or a prodigious intellect: all that is needed is discipline and study. To study the causes of economical events, and understanding them, thereafter devising, or adopting a clear and uncomplicated technical method, and adhering to that with principle and discipline is all that is necessary for success. But it must be remembered that nothing more and nothing less will do either. And the trader should get rid of all dreams of overnight riches without labor: who knows, maybe overnight riches will be possible for some individuals, but even then not without hard work and reflection.
Let us examine two major problems that cause traders to lose their wits, and turn the forex market into some kind of Russian roulette where it is impossible to maintain calm during trade decisions: the problem of undercapitalization and overleveraging.

Summary — fundamental analysis

As we noted before, fundamental analysis offers the best guidance for determining price trends. To give a simple example, in a stable economic environment, with good economic growth, and healthy employment statistics, central banks are almost certain to respond to high inflation with interest rate increases, to which the markets will usually react by buying and favoring the currency of the nation in question. And as central banks seek credibility in their actions, and are not very likely to zigzag with their rate decisions, the trader can anticipate the beginning of a long term trend through his analysis of the central bank's policies and goals, and by following his analysis, he can realize profits.
Of course, there's a lot more to be said about this subject, but the basic principles are simple. The attention span of the market is not long enough to fully evaluate the significance of fundamental developments, and economies absorb changes to fundamental values slowly and gradually. There's ample time for the trader to profit from such changes, once he's aware of them, even if he catches the trend after it's fully underway.

Commitment of Traders - The COT reports

The commitment of traders report is a little different from the previous indicators. It doesn’t measure any economic indicator, but merely states the holdings of commercial and speculative participants in various futures markets which are mostly concentrated in New York and Chicago. The report is released every Friday by the CFTC (Commodities and Futures Trading Commission) and reflects the commitments of traders on the prior Tuesday.
The COT report divides traders into three categories: commercial, non-commercial, and non-reporting. The group “commercial” mostly includes commodity producers (in the case of forex, exporter firms) who use futures to hedge against future price movements (in other words, they would like to eliminate the impact of future price fluctuations on their profits or losses: the exact opposite of what speculators aim at). The group “non-commercial” includes speculators. Speculators have no interest in the actual commodity (be it forex, or lean hog) but merely desire to profit from price fluctuations. Finally, the group of “non-reporting” traders includes small speculators who are of significant market impact, and are therefore not required by the CFTC to report their positions.
What kind of use can the trader make of the COT report? When either speculators or commercial participants have positions that are extreme in comparison to the average of a predefined period, some traders assume the emergence of a small scale temporary bubble, and they will buy or sell to counteract the extreme long or short positions registered.
Others suggest that small speculators, devoid of the tools and knowledge of the bigger participants, are usually wrong, and act on this assumption by doing the opposite of what the non-reporting group does.
Another reasoning claims that the commercial group are likelier to be correct on their analysis as they have interest in and direct knowledge of the commodities in question.
In general, each trader is free to make his mind as to which of these theories he will subscribe to, and he may eventually choose not to use any of them. But in any case, basing one’s assumptions on strong fundamental reasons, rather than the positioning of any group in any market is the course of prudence. This is not only because a successful trader performs his own analysis, but also because the pockets of the large commercial and speculative participants are likely to be far deeper than that of the average trader: Performing proper research and analysis is always better than following anyone, or any indicator blindly.

Consumer Price Index

The second type of inflation indicator, the Consumer Price Index (CPI), has far greater bearing on the choices of policy makers (such as the US Federal Reserve), and the market in general attaches to it a far greater degree of significance than the PPI. The CPI, as a measure of living costs, has a direct bearing on interest rates, and eventually, the timing of growth cycles (in other words, booms and busts).
The consumer price index measures price changes at the retail level. It registers the price fluctuations only to the extent that a retailer is able pass them on to the consumer. Thus, in an environment of high competition and falling or low demand growth, the retailer may have to cut on his profits, and a rise in PPI may not be reflected in the price the consumer pays, as measured by the CPI.
Rising CPI signifies high inflation, and central banks in general have the goal of keeping inflation low but positive, so that the consumers' purchasing power is not eroded. A rising, but slowing CPI defines disinflation: Prices are still growing, but the speed and intensity of price increases is slowing. Finally, a negative CPI implies deflation: A situation which often suggests that demand across the board is contracting, and the consumer can simply choose to wait for as long as he can before he buys a product. The longer he waits, the lower the price becomes.
It may sound complicated, but the beginning trader will do well by just keeping in mind the relationship between central bank interest rates and the CPI: higher CPI leads the central banks to raise rates, and as higher rates mean higher yield, the currency with high interest rates backing it tends to appreciate. Lower or falling CPI means that inflation risks have receded, corresponding to lower growth, and the central bank is free to lower rates to boost growth.
The CPI is also released monthly by the BLS (Bureau of Labor Statistics).

Producer Price Index

We mentioned in the previous section that we’d be discussing inflation, and it’s time to look at one of the two major indicators of inflation that the markets tend to watch at all times.
The producer price index, or PPI for short, is the measure of changes in prices charged by wholesalers to their clients such as retailers who then add their own profit margin to the producer’s price and pass the product to the consumer. Since the producer is at the beginning of the supply chain, under normal economic conditions where there’s healthy consumer demand and the economy is growing, the PPI can serve as an early-warning system for predicting price changes at the retailer end of the chain. The producer price index is different from the consumer price index (CPI) in that it also includes commodities and intermediate materials (such as a car engine or its components, for which the consumer has no use) and is therefore more responsive to changes in global commodity prices and manufacturing industry trends than the consumer price index.
In general, the PPI is more volatile with larger fluctuations than the CPI, and is useful only in giving a sense of the underlying price developments that are not always reflected on the consumer’s bills.
The PPI is one of the oldest indicators in existence, and its time series can be stretched back to the 19^th century. It’s updated each month by the BLS (Bureau of Labor Statistics).

GDP (Gross domestic Product)

Gross domestic product (GDP) is a measure of all goods and services produced inside a country's borders. As such, it doesn't include imports, even though imports can add to job creation and prosperity in an economy. It's loudly discussed by all the major media outlets, and the trader needs little effort in finding and evaluating the report. There's no need to go into the details of its calculation here, but we should briefly discuss its implications on the markets, and what a good or bad GDP number means.
GDP is valuable for the markets for a number of reasons. First, it provides the trader or analyst with a general, all-in-one snapshot of the economic situation of a nation. Without having to go through a large list of statistics, and wading through a sea of numbers to gain an overall grasp of the latest developments in an economy, the analyst finds a comprehensive report in the GDP number and its details. Second, it allows a quick and easy comparison between nations in terms of their economic prowess and health. Third, and perhaps most importantly, it tells the trader whether a nation's economy was growing or contracting during a time period. As the overall health of an economy determines the lending policies of major banks and other financial actors, the GDP number is prone to cause periods of panic and euphoria in the market, and the patient, sensible trader can exploit these periods for his profit.
A positive, rising GDP number is a sign that the economy is growing. A positive, but lower GDP value (in comparison to the previous quarter), is a sign that GDP growth is decelerating. Finally, a negative GDP value over two consecutive quarters is usually considered a recession by economists: a period of falling demand, production, and economic activity, and a source of panic and great concern for financial markets in general.

GDP releases, along with inflation statistics (which we will discuss shortly), are some of the most important parameters that central banks use in determining their interest rate policies. GDP growth can, under certain circumstances, cause high inflation through wage growth and price rises, and central banks try to combat this development by raising interest rates (which leads to higher borrowing costs, more expensive investment, less growth and less inflation.) Conversely, a period of low inflation, or low GDP growth can lead central banks to lower interest rates with the goal of rejuvenating economic activity. Forex, and all financial markets are very responsive to changes in central bank interest rates, and the trader can keep his eyes on GDP statistics and inflation numbers as advance warning on changes in central bank policies.

Let us finally mention that fundamental "analysis" that depends merely on the headline number can sometimes be misleading. The GDP number can be flawed as an indicator of economic health for a number of reasons, but one that must be born in mind is that inventory accumulation by firms (rising stocks of unsold goods at firms' warehouses) is added as a positive to the GDP value, and this sometimes can cause an unreasonably healthy picture to be portrayed before periods of economic slack. Since inventory accumulation can be caused by insufficient demand, the trader should always check this component of the release for anomalies before making a judgement.

Fundamental Analysis

Fundamental analysis concerns itself with the causes of price movements. It doesn't attempt to predict future price movements per se, but because economic events move far slower than market developments, it's usually the case that a phenomenon established by fundamental analysis will be valid for a longer time than the market reacts to it, and discounts it (due to the market's erratic, irrational and emotional behavior), and it's this fact that the trader exploits for profit.
Fundamental analysis is about economy and politics. It is important to keep up-to-date about weekly employment statistics, consumer price inflation, interest rates and similar "hot" indicators that are at the forefront of newspapers pages and TV screens, but just being aware of them and expecting the market to react to them in the desired fashion in a short time is not fundamental analysis, nor is it common sense. In fact, as we mentioned in the earlier paragraph, the main reason that the trader can profit through fundamental analysis is that the markets do not react reasonably to fundamental developments.
Let's illustrate our point with an example:
Until the autumn of 2007 the US had very low unemployment: Toward the latter part of the second presidential term of George W. Bush, unemployment in the US moved below five percent, and it remained at those levels for a considerable time. Most of the data released through this period remained positive overall, with the exception of the housing market, where conditions had been deteriorating since 2005.
Thus, most of the data and news releases were positive, and if we're seeking to show that fundamental analysis provides good guidance to the trader, it's clear that we do not have that guidance in the patchwork of numbers that attracted the most of the media attention. Focusing on the news releases, without placing them into a working context, without understanding the workings of the economy, the trader is as blind as the proverbial blind man who tries to describe an elephant by a few gropes at its feet, the tusks and the trunk.
Like most good things in life, being successful in performing fundamental analysis requires study and patience, but once again, there's no expectation of exceptional skills from the trader. Economics is a popular field, and most of the data necessary for understanding the market is available online with research provided for free, in many cases, by big banks and government institutions. What the investor is expected to do is not to memorize the numbers and compare each week's release to the previous one, but form a coherent mental picture of "what happens why".
Finally, let us repeat here that most of the major fundamental events that the market appears to discount in a few days of trading at most, have in fact effects that last far longer and reach far deeper than the violent but brief reactions of price movements suggest. Interest rates and unemployment statistics are simple but effective examples for demonstrating our point: The effects of the interest rate reductions during 2000-2001 had lasted for at least 4 years in the real estate market, and had a great role in establishing the downward dollar trend that lasted between 2001 and 2008. Similarly, the trend of job creation in the US and abroad, once begun, had a deep and lasting impact on global stock prices and forex trends which went through all sorts of panics and shocks during this same period (the Iraq War, and several defaults by some large firms are good examples). In the end, however, the so-called big picture of stability supplied by high employment and low interest rates always brought the markets on track. What caused them to collapse eventually is outside the subject of our discussion. But, the fact that fundamental economic events are long-term, and that their effects last longer and are deeper than the market discounts is a fact that is not changed by all these deveoplments.
Let us briefly examine a number of the major economic indicators used in fundamental analysis.

Technical indicators

Technical indicators are utilized by traders in the same way that price patterns are. In the case of indicators the purpose is to give the chaotic jumble of prices and quotes some resemblance of order through the employment of simple mathematical tools. While the idea of engaging in mathematics may sound intimidating to many at first, all of these indicators have been standardized through the years, and the trading software that draws them will in general leave little discretion to the user. The mathematical formulas themselves are usually simple and straightforward, and some high school mathematics is the most that is needed to understand why and how are they are constructed.
How many indicators should we use? Which indicator is the best for evaluating a chart? These are the questions that often confuse the inexperienced trader, and leads the experienced trader to claim that trading is an art and not a science.
Let’s try to answer those questions one by one:

How many indicators should a trader use?

The answer to this is not as difficult as it seems at first glance. It can’t be denied that the more indicators there are on the computer screen, the more information is available for the trader. Moving averages of different time periods, for instance, can provide a good signal for determining the next obstacle, the next support and resistance levels for the price.
But the question is, how much information does the trader need? Does he aim at making quick profits on an intraday basis? Or, does he aim at making profits from monthly movements? Obviously, a long term investor has very little use for a 3-hour moving average.
And beyond these questions, how much information is the trader able to evaluate meaningfully before losing focus and being lost in meaningless mental discussions about whether this or that indicator gives the right signals?
Naturally, people will have differing answers to these questions based on personal experience, and there’s nothing wrong about that, as many of the indicators themselves are the same tools disguised in slightly differing formulae. It’s very hard to decide whether the RSI or Stochastics is more accurate in giving signals, but it’s not that hard to claim that what they do is by and large the same thing.
Simplicity and clarity, as in everything else, are the best pieces of advice that a beginning forex trader can pocket from this discussion.

Which indicator is the best for evaluating a chart?

To this, the answer is rather simple: none. While it's true that for different types of charts, different types of indicators can have more significance (such as the RSI being more suitable for ranging markets), the best method probably is taking one of each type of indicator (oscillator, moving averages, and so on) and combining them to get as complete a picture as possible about the current state of the market through the use of technical analysis.
Let’s briefly examine the four major indicator classes most often encountered in forex:

1. Oscillators

The relative strength index (RSI), or Stochastics are called oscillators because they move back and forth (oscillate) between two fixed points. In general, the forex oscillators move back and forth between overbought and oversold levels, and the signals they generate are most useful in range-bound markets. To give an example, the most popular and common of oscillators, the RSI, will give a buy signal when the indicators value is below 30, and a sell signal when the value is above 70.

Most charting software provided by forex brokers include the capability to plot all kinds of oscillators on the price. Since oscillators of the same kind can give conflicting signals, it is perhaps a good idea to use only one oscillator in evaluating a single chart. In fact, since a large part of the perceived effectiveness of technical tools is the result of their wide-spread usage by traders, it’s not advisable to use a rare, obscure technical tool, however convinced the user may be of its effectiveness.
Oscillators are leading indicators, in that they’re supposed to give advance warning of a change in the direction of the price movement. How valid the signals they give are depends on the liquidity of the market and price pattern. In an environment of poor liquidity (like Christmas week, when most people are on vacation), the signals emitted by these indicators are likely to be almost useless, because a sudden and relatively small injection of liquidity is highly likely to disrupt the oscillator’s scenario. Similarly, in a strongly trending market, the RSI can touch 70, 80, and even higher levels without the much anticipated counter-trend movement materializing.

2. Moving Averages

We have mentioned several times that the price movements on a typical day are chaotic and unpredictable. The purpose of the various kinds of moving averages is to smooth out those fluctuations, and to provide the trader with a more easily evaluated picture of the trend. Moving averages can also be said to identify trends automatically: While in drawing trend lines, the trader has to use a lot of discretion in deciding which price movement is significant and which is not — the moving average simply takes all the available data and creates the trend.
The two most usual kinds of moving averages — simple and exponential — are calculated in a similar way, but with one little difference: The simple moving average adds all the closing prices together and divides them by the number of the periods (days, hours, etc). As data is updated, the average changes (that is, moves) and the indicator is thus plotted out on our screens. In calculating the SMA, all the data from different time periods are weighted equally: Yesterday’s price is just as important as the closing price of three months ago. But in calculating EMA (exponential moving average) a simple mathematical formula grants greater value to the prices of the most recent time period, and therefore recent values are emphasized.
There are many ways of making use of these indicators. For illustration purposes we’ll consider the moving average crossover method which is often used for determining entry and exit points.

Because the EMA values the most recent periods more, and thus is more sensitive to recent price changes, the trader using the crossover method will use those occasions when the EMA makes an outsized movement in either direction in comparison the SMA as entry and exit points. That is, when the EMA moves faster than the SMA, and crosses below or under the SMA line, the trader will make an attempt at opening a position if all his other conditions (fundamental, technical) are also met.

3. Pivot Points

Pivot point are calculated by taking the average of the previous high, low, and closing prices, but as with most technical indicators, there are a lot of different ways and approaches to calculating them. Fortunately, as forex brokers provide charting services that perform these calculations in place of the trader, all we need to discuss here is how technical analysts use pivot points to predict future price movements.
Technical analysis contends that if the pivot point is broken in an upward direction, the short term signal is that a new trend is being established, or at least that a short term bullish movement is underway, and vice versa if the pivot point is broken in the opposite direction. Another usage of the pivot point that we must mention is in determining the trigger point for a new trade or limit/stop order. Since the pivot point is considered the most important support and resistance point, it can be utilized as profit taking target, or a convenient price level for a stop loss order.
Pivot points are short term indicators, and must be updated each day with the incoming data. All other things being equal, the technically-minded trader will expect the greatest price fluctuations to occur at the pivot point, and the other technical support or resistance levels are expected to be of minor significance in comparison.

4. Fibonacci

Fibonacci numbers, discovered in the 15^th century by an Italian mathematician, are numerical patterns found throughout the nature in everything from the structure of leaves to patterns of sea waves.
But we’re only concerned with this mathematical curiosity in as much as it bears on our trading experience, and that’s where we’ll need to consider the Fibonacci retracement and extension levels.
Fibonacci retracement occurs when the market reacts to a price movement in the course of a trend with a movement on the opposite side, with the size of the opposite movement defined through multiplication with the Fibonacci numbers of 0.38, 0.5 and 0.61. These levels can be drawn by the charting software offered by the broker, and the trader should only know the existence of the various levels and their significance in determining the size of the usually temporary reversals. Fibonacci extension is the opposite of retracement: During the course of a continuing trend, the size of the next leg of the trend can often be calculated by multiplying the size of the previous leg with one of the Fibonacci numbers.
The reader should not worry at all if that description sounds complicated. The best way to learn about extension and retracement is practicing on the charting software with a game or mini account offered by the broker. All that you need to keep in mind is that the size of the extension or reversal is only clear in hindsight: There’s no way of knowing which of the three Fibonacci numbers we mentioned above will determine the size of the oncoming reaction or continuation.

Price action: chart patterns and price formation

As we noted previously, technical analysis concerns itself with the patterns created by the price quote changing throughout the day and beyond. Through the last century, studies of stock prices have supplied traders with valuable tools for evaluating those price patterns. Triangles, tops, bottoms and so forth are no less valid in analyzing forex than they are for the stock market. There are a large number of them to be found in trading-related books and publications, and their recurrence through all sorts of different markets proves their relevance.
While using these patterns traders must always keep in mind that at any moment any unexpected event can easily disrupt a perfectly developing pattern. Indeed, in the currency market, they are very often derailed by large orders submitted for very mundane reasons: the managing of an overdue position, closing of a deal, etc. In general, it is not advisable to base one’s entire trading method on these patterns, but they do provide an excellent early-warning system for identifying a potential trade, provided that it’s backed by good causes supplied by other aspects of analysis.
The character of these patterns is the accumulation of tension and its eventual release. As we’ll see, most of these are created when the market is unsure about where to go, and is unable to break out of a particular range during a period of indecision until the crucial information is provided, uncertainty is removed and the price is free to move. The lacking information may be supplied by a news release, a government announcement, a press conference, and through myriad other possibilities.
In general, the best way to utilize these patterns is to seek them during periods of uncertainty, identifying their cause through fundamental analysis, and acting on the result.
Let’s see a few examples:

Symmetrical Triangle

The red line here depicts the price quotes, while the blue area is, obviously, the triangle. As it can be seen from the basic graphics above triangles represent periods of consolidation; in other words, the market is going nowhere.

Triangles are in general thought to be continuation patterns: The time frame during which they develop is often a period where the market digests the previous developments, absorbs new money and awaits new data that will provide it with the trigger to continue in the previous direction. So in essence, triangles are the breather phase in a continuing run during which market participants pull back and reassess their gains or losses. At the point where a triangle develops, the market usually has not entirely priced in the main event which created the bull or bear market in the first place, and triangles can be a good entry point for a trader who has missed the beginning of the main trend, provided that the underlying fundamental picture remains the same.
The symmetrical triangle represents the case where the market is temporarily unsure about pressing the price higher or lower beyond the range established. It is thus often found on intraday charts in the period leading to major news releases. Neither money flow nor news supplies the catalyst to move the market to either direction, and the vote of the market is split. Still, the symmetrical triangle can provide a very good point for joining an existing trend, provided the fundamental picture remains the same and there’s no major development that can alter the direction.

Ascending Triangles

The ascending triangle represents market conditions during which the market participants are inclined to view the bullish aspect more positively. In other words, the amount of money that is buy-side is greater than the amount that is sell-side, but the difference between the two is not enough to force a breakout from the triangle pattern. It’s a sign that given a sufficiently positive signal from news flow or the infusion of a large amount of money into the market, prices will either continue or begin a new uptrend.
Traders usually interpret the ascending triangle during a bear trend as a sign of trend-reversal. It’s safe to say that it is at least a sign of indecision or exhaustion by market participants, just like all the chart patterns that we examine here. As with the symmetrical triangle we just discussed, it can provide the trader with a good entry or exit point, provided that the signals sent by technical analysis are confirmed by sound fundamental reasons. For those who’d like to base their decisions on technical analysis only, a well-planned stop-loss order is advisable, as the breakout of all triangles can be rapid and violent, causing great losses to those on the wrong side.

Descending Triangles

The descending triangle is the exact opposite of the ascending triangle. As a result, it's usually found at reversal points in bull markets but also as continuation patterns during the course of bear markets. All the statements made above about the ascending triangle are also valid here, but in reverse.
Despite all the characterizations that we’ve made about these patterns, we must always keep in mind that nothing in technical analysis is guaranteed. There’s not a single indicator or pattern that offers the trader the perfect solution to the market’s uncertainties.

Double, Triple and Quadruple Bottoms and Tops

Tops and bottoms are patterns that are found when the trend is in danger of reversing. During the development of these patterns buyers and sellers are close to being in equilibrium, and the amount of money entering or exiting the market is not enough to force a breach of the support and resistance lines that define the top and bottom structure. In other words, the main trend that is being tested at the support or resistance line is in danger of exhausting itself, but is still intact as long as the pattern is developing. As with the triangle pattern, this pattern keeps zigzagging and repeating itself until news or new money forces a breach of the support or resistance level. Technical analysis contends that the greater the number of tops and bottoms, the higher the likelihood of a reversal; the stronger a support or resistance level is, the higher its potential for overcoming and reversing the trend, at least on a temporary basis.
Of course, not every top/bottom formation will lead to a reversal. In fact, as with the triangle, these formations occur ubiquitously on the intraday and intra-hour charts without having much significance beyond signalling a very brief period of consolidation for the price action. But there are times when the tops and bottoms are strongly coupled to news reports and other fundamental developments, and the trader will surely come across many cases where the market responds in quite a predictable fashion to the stimulation provided by these sources. In order to avoid whipsaws and false breakouts, the trader can always attempt to corroborate his technical scenario with information from the fundamental side.

Head and Shoulders and Reverse Head and Shoulders

Head and shoulders patterns are in fact quite similar to top/bottom formations, with the one distinction that the second attempt at breakout (that is, the head) from the support or resistance level where the first shoulder failed is able to succeed, but then goes nowhere. In other words, the trend temporarily seems to press on with its progress, but the price movement is deceptive, and eventually the prices move back below the support or resistance line where the shoulders of the formation fail to breakout again. The trend is then expected to reverse.
The head and shoulders pattern is in general a reversal signal in a bull market, while its reverse signifies the opposite. In a sense, the market “eats” those few who, on a bout of euphoria, follow the false breakout and attempt to chase it higher, while the majority remain on the sidelines, undecided. Once it’s clear that the breakout attempt has failed, they make their own move, and the trend is reversed.
The pattern is a powerful signal and should always be considered when evaluating the price action. Of course, it’s not the compass for determining trend reversals, but it’s a significant and useful warning sign for a possible change in the market’s attitude.

Resistance and support lines are price levels which temporarily halt or reverse the continuous movement of the trend. When the trend is bearish, support lines are created where sellers are temporarily (or sometimes permanently) exhausted and cannot press the quote any lower. Conversely, during a bullish trend, the price level where buyers are checked is called a resistance line.
Studies over the years on technical analysis have confirmed resistance and support lines to be performing relatively well in their predictions. Ther are a number of reasons for this:

• Resistance and support are relatively easy to identify on charts. From the most seasoned analyst to the forex freshman, traders don’t have a lot of trouble identifying and drawing support and resistance lines. In consequence, there’s little disagreement about their location and interpretation, unlike the case with Fibonacci retracements or MACD where different starting points or different parameters can result in different results. Such is not the case with support and resistance lines, which are easier to identify and interpret.
• Support and resistance lines often receive a lot of attention from news sources like Bloomberg or CNBC. The public is led to identify a particular price as a “decisive” or “key” level, and when it acts accordingly, the significance of these levels is easily established. The influence of the financial media in raising awareness of these price points is so great that even those who have little interest or understanding of the forex market can't avoid noticing the erasure of these levels.
• Finally, support/resistance lines are not just imaginary lines drawn at the whim of the analyst. Multi-year, multi-month, multi-week support and resistance are often defended by large order clusters sometimes originating from sovereign actors (in other words, central banks or their equivalent). A few large banks such as Deutsche Bank, UBS and JPMorgan have an enormous dominance in terms of forex transaction volumes, and it’s hard to imagine a support or resistance line holding without their participation. Not only do these large firms have access to their own clients’ orders and allocations, but they also can move prices in either direction in relatively calmer markets by simply placing orders. Their orders and choices are thus noted by market participants at large, and contribute greatly to the establishment and validity of the concepts of support/resistance lines.

So what is a support or resistance line? To understand this, let us first consider how a price quote is created, as countless orders flow each day across computer screens and phone lines around the world:
When a dealer enters a buy order, the broker has the order filled by executing as many offers as possible until the amount the customer desires is reached. If the original order is a large market order, the broker will keep climbing on the price ladder until the order is fulfilled. Support and resistance points are created when the total orders in the market are not enough to clear the offers at a particular price level. When the orders are sell orders, and there are more than enough buyers at a particular price to exhaust the sellers, that price level is called a support; when there are more sellers than the buyers’ orders can clear, the price level is a resistance.
Technical analysis has an equal but different-sounding explanation of this concept. Instead of order flows and their fulfillment and exhaustion, technical analysis simply notes when a price level fails to be exceeded in either direction, and once that price is visited again, the analyst will warn of support or resistance at that level. The rationale behind this suggestion is provided by trader psychology: Since many participants expect a price level to resist or support the quote, that price level will act in the anticipated manner regardless of what the other variables suggest. In a sense, technical analysts claim that traders behave like pack animals.
During the course of an ordinary trading day it’s possible to identify innumerable support and resistance levels on charts of different time frames, and in many cases, support and resistance lines are indeed created for no other reason than that traders expect them to exist. But while this is true, how much can the rational trader benefit from this concept when it is based mostly on emotional responses?
Let us once more remember that we as human beings can only evaluate our environment through our brains. It’s always possible to predict the rational response to any event provided that one is in possession of the relevant data. But it’s far more difficult to predict the emotional response of anyone to any event, however abundant the data may be. There are countless examples of collective mania throughout history, from the Holocaust of the 20^th century to the Crusades of the 11th century and beyond. Emotions such as fear, hate or anger can cause humanity to behave in all sorts of unpredictable ways. So, on what basis can we claim to understand the mass-emotions of the markets through indicators such as the resistance and support levels?
If this is the case (and we can't really make such a claim), we’re faced with a question that we must somehow have already answered: What will be our criteria in determining which support or resistance line is trustworthy, and which one is not?
In general, traders should not try to wager a bet on the strength of any support or resistance line without the presence of data on order flows. Information on the order flows of central banks and other major financial institutions is often provided by financial news providers, and a forex broker will usually provide his client with news flow from at least one such source. As a particular support/resistance line fails to be breached a number of times, the names standing behind that line will be clearer. More importantly these large actors often have easily discernible motives behind their actions. Their behavior patterns become identifiable, and the patterns last longer than those of speculators. Consequently, their behavior is far more predictable than those of the smaller speculators.
The support of the Russian Central Bank for the Euro during the past years, for instance, was well-known to forex markets: In countless cases their appearance behind a price level was enough to sustain the market or change its direction. Many such examples can be given about the relationship of the UK’s pound with Middle Eastern central banks and their equivalents and that of the yen with Japan’s exporter-related accounts. A trader would often make a profit by siding with these actors when their presence was acknowledged. And if he didn’t know about their existence, he’d simply not take a position based on support or resistance. While some of these institutions will not be as powerful in the coming years as global trade and commodity markets cool down, the relationship between support and resistance lines and the large global financial actors will probably remain the same.
Now of course, there will be those who will rise up and rightfully attempt a rebuttal of our argument by pointing at the intra-day resistance level that failed to be breached three, four or five times, and held its own in the absence of any fundamental reason to justify its strength. And they will say, “Alright, so this resistance level was created by emotional responses, herd behavior, trader psychology, and so on, there were no large players, but what is so wrong about that? Ok, we can’t explain it, we can’t know the reasons that caused it, but we can still make a profit from that, right? So, maybe you should just shut up, and tell us how to do so.”
To this argument the response would be that the strength or weakness of the support and resistance lines that seem so clear to the person who wishes to profit from them, is only clear in hindsight: For every support line that holds four times, there are many that failed the third time. And for every resistance line that was unbroken three times, there were many that failed the second time. They all look good and profitable on the charts, but what will allow us to know which one will hold and which will fail? Since in a majority of cases the anticipated support and resistance level will fail, how are we going to decide which one will hold and which one will not?
Of course, this is not suggesting that the concepts of support and resistance are useless; quite the contrary, they have been proven to be meaningful and relevant to trading through research and experience, but we only submit that the trader look beyond the price action itself in establishing the validity of support or resistance lines.
To conclude, let us admit that no sane person of any knowledge of the forex market will deny that emotions play perhaps the greatest part in the formation of intraday and daily quotes. It is rarer that the emotional responses of traders dominate trading for months over realities, but it is by no means unheard of, or extreme. The problem on a trading method based on emotions is not in the method itself, but in the unpredictability of human emotional responses.

Technical analysis

In a previous chapter, we discussed what technical analysis is. In this section, we’ll take a look at the various indicators and patterns that are used in technical analysis.
The most basic tool of the technical analyst is the chart which depicts price action during a specified time period. Charts are useful for giving us historical information, and they can provide a snapshot of the market at the moment they are drawn.
Let us look at the two main types of charts according to how they depict price movements:

Line Charts

The line chart is simply a graph of price points connected by lines. The vertical axis, as shown in the symbolic chart below, depicts prices, and the horizontal axis matches a particular time to each price quote on the vertical axis. Line charts are pretty simple and straightforward and the trader will have no difficulty in getting used to them with a tiny amount of practice.

The advantages provided by line charts are in clarity and simplicity: instead of cluttering the vision with highs, lows, opens and closes, the line chart gives a historical picture of the underlying trend, and the trader is free to make his interpretations. The line chart is perhaps best used to supply the trader with a basis on which he can build his trading strategy. Once he’s got a grasp of the underlying movement, he can use other, more detailed charting tools to precisely define where and when he will move to make a trade.

Candlestick charts

By the standards of technical analysis, the candlestick method is ancient. Its origin is thought to be 18^th century Japan, and legend credits a certain Homma Munehisa with its invention.
The candlestick chart packs a lot of information in a very concise and useful form: Let’s see an example in the graphic below:

The black candlestick signifies a market session that closed on a higher price quote. Conversely, the white candlestick tells us that the prices closed lower. The body of the candlestick shows the open and close values (when depicted on a price chart), and the top and bottom edge of the wick shows the highest and lowest values for the session.
Let us see the various types candlesticks the trader can encounter on any chart:

• Hammer – a bullish pattern during a downtrend (long lower wick and small or no body); Shaven head - a bullish pattern during a downtrend & a bearish pattern during an uptrend (no upper wick); Hanging man - bearish pattern during an uptrend (long lower wick, small or no body; wick has the multiple length of the body.
• Inverted hammer – signals bottom reversal; Shaven bottom - signaling bottom reversal, the hammer has no lower wick; Shooting star - a bearish pattern during an uptrend. The candlestick has a small body, a long upper wick, and a small or non-existent lower wick)
• Doji – the candle body is squeezed to a thin line, neutral signal.
• Long legged doji – signals a top reversal
• Dragonfly doji – when there’s no upper wick, and a long lower wick, the candlestick signifies a trend reversal to the bullish side.
• Gravestone doji – when there’s a long upper wick, and no lower wick, the candlestick signals a trend reversal to the bearish side.
• Marubozu white – no wick, depicts a beginning or continuing bullish trend.
• Marubozu black – no wick, depicts a beginning or continuing bearish trend.