On Trading Financial Markets

Well, it should probably be noted that not only is trading financial instruments not for everyone, but it's almost certainly going to end in disaster (in the form of financial ruin) for the vast majority. It's an odd phenomenon that exists to create a world that sucks people in and spits them out in such an astonishingly repetitive and predictable manner. I've discussed with friends in the past a trading algorithm that does exactly the opposite of what a new market participant chooses. We concluded that such an algorithm would be a phenomenal money-spinner!

So, in relation to the above, I have had to concern myself recently with a point posited by my old housemate. In relation to quitting my job and moving to Chamonix, he said, "Is Oli Sherman brave or stupid, that's the question."! Well, I can add to that the possibility that my trading history over the last few years is more likely to fall into one (or both) of the above categories than any other.

My favourite quote on leverage comes from Joel Greenblatt. He likened the use of leverage to running through a dynamite factory with a lit match. You may get away with it, but you're still an idiot. Well, I almost didn't get away with it over the last couple of weeks, which I guess puts me in the category of idiot, which is a shame as I thought I was some sort of financial genius!

However, all this trading is for the purpose of learning about market dynamics, as well as to understand better my own mind in relation to trading decisions. The last 2/3 months is a good case in point.

So, my view since mid-2008 has been that the Great British Pound will fall. Badly. I was calling for it to fall to around 1.60 versus the US dollar. I also thought that the dollar would fall against the likes of the Yen and Swiss Franc. So I decided to try and monetise these views via bets in the spread betting market. The results were favourable. For a period.

The last month of 2008 was a pretty disastrous one for holders of pounds with any international debts and/or future liabilities. But it suited me rather well as I made enough on my currency positions alone to fund a winter in The Alps. As 2009 started, the pound fought back, and I missed it as I wasn't checking prices at all for the first week. My £5k loss for the first week of 2009, it was kindly pointed out to me, translated to a quarter of a million loss for the whole year, which is significantly more than my net worth! Anyway, the loss didn't phase me too much as I understand how markets can undergo consolidation periods during trends, i.e. a rising pound didn't meant that I was wrong about the pound being in a strong downward trend.

As if to validate my position, the pound promptly continued it's slide through the next two weeks, and my loss for the year was rescinded. That felt good. Then something odd happened. The pound had found some friends, and it rose back to regain the pre-New Year levels.

OK, so markets fluctuate, what are you going to do. Well, my view hadn't altered on the pound, or on the dollar. I felt strongly that the fundamentals were in line with my view and that the trend (of both currencies declining in value) was still in the process of adjusting the exchange rates. So I increased my position size to profit from the consolidation.

And the pound continued to rise... And rise... And rise.

Whilst the movements weren't particularly large, my positions were. I was effectively short £200k of GBP, mostly against the Swiss Franc. This was starting to hurt.

Anyway, as the losses mounted, I continued to check the logic of my position, and I hung on. Then, over the weekend, with time to reflect, I decided to cut my positions in half as any further losses would wipe out more than next season's skiing (which I'd already lost over the past 2 weeks). As I was implementing the reduction in risk, I got carried away and decided I didn't know anything useful about trading currencies, so I should get out of it all together. So I did. I cut almost all my currency exposure.

Of course, what happened next, but the Great British Pound lost it's friends and fell. A lot. So I reinstated the shorts in half the original size. Then it fell some more, and here we are today.

Now, for future reference we're at 1.6825 for GBP/CHF and 1.4544 for GBP/USD. And that's not going to stay the same for too long. Markets move further than most people expect, and once a trend is in place, it tends to persist for longer than most people expect. So, I should be true to myself and stick with it all. Not value investing, sure, but a fine way to make a living if you can control your risk and your emotions. Interesting to see how this all pans out!!!