Tactical Execution

Hello and welcome to Financial Audio, an information series providing listeners with detailed and tactical guidance on today’s complicated financial world. My name is Patrick and I’m your host. You can find written versions of these podcasts at FinancialAudio.com and I encourage your candid feedback at the same location. Today, we’ll be looking at the foreign currency markets so let’s get started.

In the last chapter, I mentioned the foreign currency markets because they’re uniquely well suited for automated trading platforms. We’ll get into that in more detail shortly but first, I think it makes sense to start with some definitions and explanations.

People often refer to the foreign currency markets as the FOREX market, short for foreign exchange. So what we’re talking about is the market where different currencies are exchanged with each other. In other words, foreign exchange is the simultaneous buying of one currency and selling of another. One currency is literally being traded for another.

The FOREX market is by far the largest financial market in the world with average daily trading volume exceeding $1.9T. That’s about 30 times larger than ALL the equity markets combined! And of that tremendous daily volume, only about 5% comes from real economic activity. The remaining 95% comes from speculative investors. This market has traditionally been out of reach for individual investors but that’s been changing over the past few years. Today, individual investors can participate as well but have to do so through licensed brokers or banks. As of this recording, individual investors account for about 2% of total trading volume on the FOREX market.

Every time you go on vacation to a different country, you probably exchange some American money for the currency being used in THAT country. Well, that’s one tiny transaction in the global foreign exchange market. An investor would make money in the foreign exchange market if he or she bought some British pounds, for example, when the US dollar was worth a lot. Then, if the US dollar dropped in value OR if the British pound became MORE valuable, the investor exchanged the British pounds back to US dollars and would’ve made a profit in the process.

Trades are made on the FOREX market through a series of currency pairs. The primary ones include the USD/GBP, USD/EUR, USD/YEN and of course the GBP/EUR, GBP/YEN and the EUR/YEN. So if you make a trade on the FOREX market, you would be exchanging one currency for another within one of these currency pairs – back and forth between the USD and the GBP, for example, or between the EUR and the YEN. Whichever currency you choose, your trades will move capital back and forth between those two currencies.

Let’s look at a real life example. As of this recording, the US dollar is worth about 0.74 Euros. Back in October 2000, it was worth 1.21 Euros. So that means the US dollar has lost almost 39% of its value (relative to the Euro) over the past 7 years. That’s amazing. Let me say that again because a lot of people don’t realize this has been going on. The US dollar has lost almost 39% of its value since 2000. Now, there’s a huge discussion going on about how this reality has influenced other factors in the economy and we certainly don’t have time to go over that here but there’s another part of this that we WILL look at. Specifically, if you had taken your savings and bought Euros back in 2000 and just left it there, you would’ve earned a 63% return so far and the trend remains intact, meaning more is probably on the way.

So let’s put this in context. If you put your savings into the S&P500 at the same time (October 2000), you would’ve earned only a 17% return so far. But in fairness, as you all know, the stock market crashed in 2000 and 2001 so let’s look at the return from the market bottom in 2002. If by some stroke of luck, you put all your savings into the S&P500 when it finally broke above of its downward-sloping trend line late in 2002, you would’ve earned a 65% return so far. Wow. Isn’t that incredible? So you could’ve put your money into a different currency and just let it sit there in a bank account somewhere OR you could’ve put your money into the stock market very close to the market bottom and either way, you would’ve earned roughly the same return, at least as of this recording.

That just demonstrates what’s been going on out in the currency markets. It really doesn’t add much to our topic but I had to include a brief discussion because it’s so shocking to people who don’t follow it as much. Anyway, the point is you can earn a return just by exchanging currencies at the right time. In fact, you can take advantage of a lot more leverage too because the FOREX market functions quite differently than the stock market and you can get 100:1 odds all day long when you’re trading currency and not stocks. In fact, you can even get as much as 200:1 odds but that’s a slightly different topic. Anyway, the leverage is provided by the brokerage houses because they make their money on a spread between the buy price and the sell price. So they have a direct incentive to maximize the size of your investments.

You see, when you buy stock through E*trade or Charles Schwab, you pay a commission for the trade. But these days, with online platforms all over the place, these commissions have come way down so you might only be paying about $10 for the trade, even less in some cases. And that commission doesn’t change, regardless how many shares you buy or sell. So if you only buy $100 worth of stock, the commission represents a 10% “cost” of the trade. But if you’re buying $1000 worth of stock, the commission is only 1% (a $10 commission divided by a $1000 investment is only 1%). And if you’re like most investors who are buying and selling $10,000 worth of stock at any given time, the commission works out to 1/10th of 1%!

The FOREX market works very differently. The brokerage gets a spread between the buy price and the sell price. It’s measured in pips which are like 1/100th of a penny. So the spread might be 2 or 3 pips. But that spread stays the same regardless how much you buy or sell. So the larger your trade, the larger the commission. Let’s assume a spread of 3 pips and you bought 1000 British pounds. Well, with 3 pips on each one, the commission for that trade is 30 British pounds. That’s 3%, regardless how much money you’re investing! And if you bought 100,000 pounds, the commission would’ve been 3000 pounds!! You don’t see it but its there, hidden in the spread. Of course, the spread could easily be just 2 pips but even still! That’s a lot more than stock market commissions!

So the brokerage companies that deal in the FOREX markets provide the leverage because it allows people to invest far more money. The risks are fairly small for the brokerage. The market is so huge that liquidity isn’t even an issue. As soon as the actual equity of a particular account reaches zero, they instantly sell the position and close out the leverage. And they don’t charge any interest on the money either. It’s just plain old leverage, it’s built in and it’s FREE. All the risk is borne by the investor, meaning your investment can grow extremely quickly but it can also be wiped out in a hurry. Obviously, the commissions are frustratingly high but the leverage provides an upside you won’t find anywhere else.

Another major advantage is the market hours. The stock market opens at 9:30 EST and closes at 4:00 and one of the biggest problems is that a lot of important news comes out when the market’s closed. So the market opens the next day and some stocks GAP up or gap down as a result. That means they don’t TREND up or down; they just jump to a new price. When you’re trading, that can severely impact your profitability. Yes, if the gap is in your favor, you’re in good shape. That happened to me once and I made a fortune in seconds. But if the gap goes against you (and that’s happened to me as well, by the way), you might take a big hit before you can sell out of the position.

These problems are far less common in the FOREX markets. The market is open 24 hours per day for the entire week and only closes for weekends. That means you can trade any time you like and you never have to worry about gapping prices. I mentioned this in the last chapter because automated trading platforms work well in these circumstances. The platform can keep trading away, day and night, all week long.

Now, there are a bunch of companies running aggressive TV commercials these days inviting people to free hotel seminar and telling them they can get rich trading the FOREX markets. This is dangerous stuff. In most cases, these companies are actually promoting online platforms that provide charts and indicators, all in pretty colors including big green and red arrows, to help investors make good investment decisions. They’re only using the FOREX market as a new and enticing opportunity to attract all those people who are perpetually looking for the next “big thing” – the next great opportunity.

I highly discourage people from investing in programs like this. I know. The presentations are great; perfectly choreographed. The presenter is usually a well-dressed and seemingly successful professional. But these programs usually costs between $1500 and $2500 and THIS information series provides far more useful information that any of them – and it’s FREE. Besides, the $2000 you invest in the program COULD be the first deposit in your new FOREX trading account.

If you type FOREX into a Google search, you’ll find a ton of brokerage companies offering FOREX accounts and trading. Do some research. There are a few big companies and they all offer similar functionality. Perhaps more importantly, they usually offer practice accounts where you can use pretend money to practice and see what your returns would look like. This can be an incredibly valuable exercise and I encourage anyone considering the FOREX markets to sign up for a free practice account first. Give it a try. See how you do. Get a feel for the market. And commit real money later.

I mentioned TradeStation in the chapter on automated trading. TradeStation has been a leading platform for professional traders for years. They specialize in frequent and sophisticated trading and provide the tools professional trades use. They’re also the ones who pioneered the development of the Easy Language programming language for automated trading platforms. Well, as of this recording, they JUST announced a sizable expansion of their FOREX trading platform including a substantial reduction in commissions. While their new structure isn’t as easy as a set number of pips, it certainly serves to reduce overall commissions and is another sign of competition increasing efficiencies in this new market.

I also mentioned the FOREX markets are particularly well suited for automated trading. And because TradeStation is a leader in that area already, I believe they are well positioned to lead the market going forward. If you are considering a strategy in the FOREX market, I suggest you look into an account with TradeStation. Their base monthly platform fee is about $100 but that’s waived if you’re an active trader OR if you have a balance of $1MM or more. Beyond that, their commission structure is probably the most aggressive in the marketplace.

Please know I have absolutely NO affiliation with TradeStation and receive no benefits if someone signs up for an account. But it’s worth looking at the math here for a second. If you’re paying $10 per trade on a different platform and doing 10 trades per month, you’re already paying $100 per month. It doesn’t take much for the TradeStation platform to make sense financially and believe me, it’s a far superior platform when compared with almost anything else. Besides, it’s designed to facilitate automated trading along with sophisticated back testing and optimizing tools. Personally, I’m a big fan of their platform and am happy to provide my unconditional endorsement here. Check it out.

The FOREX market provides fascinating opportunities for experienced traders and as always, I encourage education to see if it presents a good opportunity for you. Do your research. Open a practice account. And if things look good for you, it might be a great addition to your overall investment strategy.

If you’d like to see what I’M doing in the market, just create a FREE account and login at FinancialAudio.com and then click on Market Position. Now, it’s important I tell you that I’m NOT a licensed Financial Advisor. This is FREE information and I do NOT accept money to give investment advice. I’m just giving you a little glimpse into my own trading activity, that’s all.

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Again, you can find written versions of these podcasts at FinancialAudio.com and I do offer workshops, seminars and keynote speeches as well as a variety of more advanced information products so please email me at Patrick@FinancialAudio.com for more information. I’m also doing a series on innovative marketing and strategic business positioning. That series is called Tactical Execution and you can find it on iTunes.

Stay tuned. There’s a lot more to come. In the meantime, think big, take action and invest strategically. Bye for now.