In the second part of my series I take a look at the common market traps that befall us all

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Known event risk

Someone once quipped that dying was easy – comedy was hard. Sometimes I feel that the same can be said about trading. Markets are notoriously fickle. In FX where the news never stops we can step on a landmine at any given point in time. An unexpected sovereign downgrade, natural disaster, political scandal. You name it – during the course of a day anything can happen and quickly wreak havoc with your trading position.

My point is that there are plenty of unknown surprises in the market that can trip us up, so we do not need to endanger ourselves further by stepping in front of known event risks. I run a variety of systems on my accounts but I try to turn them off in front of key events. If you are running negative risk reward strategies it is always better to give up the profit than to take on an unnecessary loss.

Event Risks That I Avoid

NFPs This is the stupidest trade you can make. One time I calculated that consensus view on NFPs was off by more than 20K 16 out of 20 times. The market is wrong 80% of the time. In short nobody knows anything. Trying to handicap the US labor number is a suckers game. Worse trying to handicap the immediate market reaction to the US labor data is an even bigger gamble. It is generally much better to wait, process the data and then trade off the reaction.

The rule about avoiding the NFPs extends to the labor data of other countries. especially the commodity block where small populations can create massive divergence from expectations and destroy you if you are on the wrong side of the trade.

Central Bank Meetings Central banks ARE the FX market. What they say can reverberate for days, weeks and sometimes months. It is much better to process their message and then react. The market will not adjust instantly. If the central bank decides to change course the market will change with it. Witness the BOJ and USD/JPY. If you run a system in front of central bank meeting you are begging to be stopped out. Totally unnecessary trap.

G-20 Meetings, Eco Fin Meeting, Endless EU Rescue Meetings What would politicians do without meetings? They probably couldn’t exist. Most political meetings are a waste of time. A lot of these meetings are routine – but if they are meeting over the weekend you can bet that s* is about to hit the fan. A good rule of thumb to use – if you see Angela Merkel’s face on the front page of the business section, avoid taking a position before she speaks.

I’ll conclude this week piece with a quute from last week – the motto for success in our business is Be Less Dumb.

The key to making money from the markets does not lie developing in a newfangled system every week. It is much more dependent on avoiding the common traps that occur day and day out. The markets will naturally force us to make plenty of mistakes, no need to add to the problem by making unnecessary ones.

This of it this way. You can probably run across a multi lane highway in the middle of the night and avoid getting hit by a Mack truck – but why the f- would you want to?

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The EUR/USD is the world’s most actively traded currency pair and for many forex traders, this activity provides opportunity.

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The irony of the trading life is that we spend 99% of our time trying to figure out how to win instead of making sure that we don’t lose. The fact of the matter is that most traders will benefit far more from learning how to avoid the common traps in the market than from refining yet another derivative of a derivative of a derivative strategy.

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There are three common traps in FX in my opinion and each is destructive in its own way not because of the intrinsic damage that it does, but because of what we do NEXT. Namely, every time we fall into one of these traps we lose our psychological equilibrium and do massive damage to the account as we deviate from our business plan ( see my column last week).

Personal Traps

Market Traps

Dealer Traps.

This week I will address personal traps that ensnare us all.

Excessive leverage

The easiest quickest and most certain way to lose money in FX is to overlever your account and have a margin call automatically stop you out. In order to properly manage your leverage you need to understand the concept of capacity – that is the maximum notional amount of all open trades that you may carry in the market at any given time. If you strategy calls for possible 5 opens trades at once you cannot have each trade at 10:1 lever factor because you will run out of usable margin. This is the easiest mistake to correct and yet the most common one that we all make. Generally the rule of thumb for US based traders where max leverage is 50:1 is that your capacity should not exceed 20:1. That means that if you are going to have up to 5 trades open at once – each trade cannot exceed 4:1.

Order entry mistakes

We all hit sell when we mean buy and then nurse the trade hoping that it will become profitable. Deadly mistake. Hit the wrong button? Get the F-out!. Don’t think, do. The 5 or 10 pips that you will lose will be a pittance compared to the money you will lose by holding on to a trade.

But perhaps the worst mistake we make is to forget to attach a stop to every order. It is IMPERATIVE that you check all your floating trades and make sure that each has a stop behind it.

Orders over the weekend

If you are a long term trader who holds positions with 300-500 point stops then this trap is not for you. But if you primarily day trade then holding positions over the week-end can be like stepping on landmine. All you need is just a couple of weekends during the year to wide gap open against you and your account will feel the pain. Bottom line if you daytrade. Get flat for the weekend.

As one of my traders in our chat room said today – the motto for success in our business is Be Less Dumb.

The key to making money from the markets does not lie in a newfangled system. It is much dependent on avoiding the common traps.

Like to trade the EUR/USD? So do we!

At BKForex, a large part of our trading is short term and the EUR/USD is one our favorite currency pairs to trade.

The EUR/USD is the world’s most actively traded currency pair and for many forex traders, this activity provides opportunity.

Sign up to receive our FREE 17 Page EUR/USD Trading Strategy

*By signing up for this strategy you agree to receiving promotional emails from BKForex.com