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How To Escape From A Losing Trade
This week the EUR/USD did something extraordinary -- it spiked more than 4% in the aftermath of a dovish FOMC presser -- a move of such ferocity that it hasn’t occurred once in more than one thousand days. If you day trade the EUR/USD like we do in BK chat the lessons of Wednesday’s melt up were invaluable.
Generally we are trend faders on daily basis. We sell highs and buy lows and if you know how to do it properly that can be a very profitable business. Providing liquidity rather taking it is how banks make their money and we simply follow their methods. But of course on days like Wednesday that approach can cost you dearly if you don’t know how to escape.
The key to knowing when “to hold ‘em” and when “to fold ‘em” is velocity. In a regular market
price will generally follow a two way market even if it climbs steadily higher or drifts continuously lower. The most important part to understand is that price trades through time and in the EUR/USD for example it will rarely climb more than 50 points in an hour. (Note I am NOT talking about news based dislocations where price simply skips many levels in reaction to event risk. This is a separate issue and we have many safeguards to avoid such moves).
Therefore if price is moving on a chart like a speeding car on the Autobahn -- BEWARE. The faster the speed, the quicker you must get out of the way. In moments like Wednesday the markets essentially go into a liquidity vortex. Any trades that are offered get sucked up by the relentless demand destroying anything within its path much like a black hole devours anything within its pull.
A good rule of thumb is that if price has moved 25 pips in one minute or less (again NOT in a gap like way as it does post-news, but in a normal fashion by chewing through bids or offers) then its best to fold up your tent and go home. Just like it is always much more prudent to pull out of the lane and let the crazy speeding driver pass you by, so too in the markets when price velocity becomes extreme its best to stop trading for the day. In both cases you are much more likely to escape with your life and your money intact.