We learn in school how to make decisions based on “fundamental analysis.” But how useful is it in trading?
In this episode of 2 Traders Podcast, Walter and Darren talk about the constantly changing forex markets and how the fundamentals dictate which market you should choose to trade. Both of them agree on the value of fundamentals, although perhaps, it is not critical that your decisions should be based on it.
You’ll also get to see what the news can do to you and why you should never watch too much of it.
Download (Duration: 29:04 /33.2 MB)
In this episode:
00:36 – the changing markets
04:10 – out of the slumber
06:09 – pretty critical
08:28 – impending news
12:21 – the price you pay for trading
13:03 – ice cream business
16:01 – trend following is over
18:08 – steep move up
19:25 – complete rainbow of flavors
20:42 – who’s on the other side?
21:59 – off the cliff
24:17 – look at the historical data
26:48 – not going against the pros
27:16 – Naked Trading set ups
Should I take a break from trading? [Click To Tweet].
You can see all you need to see on the charts. [Click To Tweet].
It’s the simple things that you need to keep in mind. [Click To Tweet].
Walter: The best thing to do, for me, is to make sure that I follow my system and that includes taking trades even when there’s a pending news coming…
Announcer: Two Traders, Darren and Walter, pull back the curtain on profitable trading systems, consistent money management, and profitable psychological triggers. Welcome to the Two Traders Podcast.
Walter: Welcome back to the Two Traders Podcast. I’m Walter and Darren is on the line. Hello, Darren.
Darren: Hello, Walter.
Walter: Today, Darren, we’re going to talk about the changing markets, how the fundamentals dictate which market you choose to trade, or how you approach your trading. First of all, what got you into this line of thinking?
Darren: Obviously, the traders that I worked with generally trade the GBP/USD and at the moment, there’s this uncertainty about the UK leaving the EU.
As a result, a lot of us have been pretty beaten up by the markets the last couple of weeks. Nothing out of the ordinary, actually, but obviously when you’re going through it, it feels when it’s constantly on the news that there’s something fundamental going on in the markets and you’re losing. It heightens the pressure.
It might be in line with any other fundamental changes in your market. I remember when we we’re leading up to the general election — was it last year? It was last year. Again, it was a period just before that where we all really struggled for 5 weeks. It’s very difficult.
Obviously, the questions coming up are: should we change anything? Should we trade a different market? Should we change time frame? Should we take a break? And what do we do when these fundamental things make it difficult for trading?
Now, I’ve long had to view that you should test your strategy over law of market conditions in a long time and the number should play out overtime. You’re going to get this periodic bad times and, hopefully, the numbers should play out. You make more in the good times than you loss in the bad times. That’s where you get your consistent profit from.
I’m interested on your view. Here’s the point, the difficulty is if you decide “well, when I’ve decided that the markets gone bad, I’m going to change”. The risk of that is you get high tuned sensitivity to that and then every time you have a bad day, you decide that the market has changed and you stopped.
Then the next day’s brilliant and before you know it, you don’t know which way is up or down. You’ve got much confusion. What’s your thoughts? Do you know what I mean?
Walter: Completely. Of course, I do. If I understand this correctly, when I first started trading, it was actually before September eleventh event in New York and which is horrific, of course.
What’s interesting was — at this time, I was really a poor trader — if the U.S is going to go and invade Iraq, traders who’ve been around for long time know that. Essentially, what happened was every time Colin Powell — who was the Defense Secretary at the time — every time he went to speak, the EUR would move around like a Mexican jumping bean.
It was insane, the idea is just so much. This was the time when the EUR was also in a very strong uptrend. You have the EUR just breaking out of the slumber and starting to move up. What was happening was every time Colin Powell spoke, it would move the market and it was incredible.
This was the major news piece that move the markets then later on, after they did Iraq, it moved to jobs. The non-farm payroll became a really big thing and it was for years and I guess you could still argue that it is.
These things come and go. Is the Reserve Bank of Australia going to cut into its raise or raise rates? When that becomes the issue for the AUD then you’ll see people wait for that news.
Here we have now, as we record this, the idea of the Brexit. Will the UK leave the EU? Will they leave the European Union or not? All of these things, they change over time.
The way I look at this is I’ve changed my thinking because when I first started trading, I thought it’s really important to stay out of the market when these people are speaking, when this news is going to come out, because you really want to wait for that to happen and then you can get in.
Part of my thinking along these lines has changed because now I believe that you can see all you need to see on the charts. Let’s say that you think that the market is bullish on the GBP and that you know that there’s going to be some important announcement or somebody’s going to talk tomorrow.
The question is I’ve got this bullish signal on the GBP, I should take it. I should buy the GBP right now but I’m really worried about what’s going to happen tomorrow. Maybe I should wait ‘til after the news tomorrow. Well, I think that — and I used to not think this — I used to think that you needed to really pick and choose your places.
I think, in some ways, it depends on your approach. And if you’re trading the five-minute chart or the weekly chart that’s pretty critical but now I actually think that if you’ve got all of your fail safe pieces in place — in other words, your stop loss — and you know how much you’re going to risk on the trade and you trust your broker.
In theory, what should happen is you take the trade today so you buy the pound today. If the trade goes bad and GBP collapses tomorrow on the news, you’ve got your stop loss in place. If you don’t take the trade, what you’re doing is you’re picking and choosing when you should filter out those signals.
I’m not saying it’s necessarily a bad thing to do, especially if you’ve got a lot of experience, but I think that I would be more likely to not take a trade because the signal to me is a little bit iffy than because I think the news is going to affect it.
As we all know, the news is what affects everything depending on how you look at it but most traders will tell you the news is the fuel for the fire that moves the market. If the GBP is going to go up, then maybe because I’ve got the bullish signal today.
That means the news tomorrow is going to send the GBP up. If it isn’t — if it doesn’t — in other words, maybe it goes up to two hundred pips tomorrow and that’s a really good move for me on this system that I’m trading.
Maybe I should just take the trade because I have this signal and not really worry so much about the news. I think you can over think it. If you’re a technical trader like I am and you just take technical signals, I think one: it’s really difficult to interpret the news correctly.
If you do wait to the news, how many times that we see a “were so called positive news” comes out and then the currency in question goes down. I mean this is crazy, I don’t think that it’s necessarily that critical that you should avoid taking a trade because of the news.
I know that people now are all looking at the possible Brexit and this is affecting GBP pairs. I don’t really think that’s that important. If you’re trading the one-minute chart or the five-minute chart, fair enough. You wait for the news to come out then you take the trade.
If you’re anything from four-hour or above, I don’t really think that filtering your signals based on impending news is necessarily a good idea. Even though to this day I still don’t take the non-farm payroll like the trade on the day before the non-farm payroll, I won’t trade it.
I don’t think that’s necessarily that critical anymore. I really don’t. I think that if my signal is good and I think I should be doing that, I don’t know why I don’t do that. Probably, it’s just more tradition more than anything.
Sometimes, you will get a good trade on the back of that news on the non-farm payroll announcement. To me, it’s not that important, Darren. I don’t know. What do you tell the traders that you worked with when they ask you this? Do you tell them “yeah, maybe we should look at a different market” or, “no, we should keep doing this”? Or, “we should be more cautious”?How do you approach it?
Darren: Like you, I don’t think there’s this one answer. You have to find where you’re comfortable and what you want to listen to and what you want to exclude. The last couple of weeks, some traders have moved to other pairs and they’ve done well.
Some have moved to different timeframes, some have stayed doing what they always do, and some of them have lost, and some of them have won. Really long term, I want to make trading as simple as possible for me.
For me, I looked at the decisions that are hardest to make and hardest to live with. I just try to reduce them as much as possible. I’ve just been letting the numbers play out, I’ve been taking the set ups just like I would.
I’m not taking any notice that there’s this fundamental change and I’m using the same exits. I’ve been a little bit more cautious with my risk so that’s something that I am changing. I know that just like when I run my test, there are a couple of weeks or months where the fundamental background changes and it’s difficult for my system.
I’m just kind of like accept that I’m going to give a little bit of money back and that’s the price that I pay for not having to get up everyday and make difficult decisions and assumptions about whether the fundamental conditions have changed, enough again to start trading, or whether I should set out.
I’m just trying to make the process as easy as possible when it comes to my decisions. That’s my choice and I think, really, it’s a case of finding yours. The idea of trading fundamentally, say looking at the fundamentals of the markets and deciding right then, this is clearly going to be strengthening currency and this one is going to be a weakling one.
Just trading purely on that is a whole different. That, actually, is much more a better approach if you’re more academic and you presumed that the technical approach would suit academics more. The technical approach probably suits creative artistic people more.
The fundamental, if you’re more of a much more a structured person and you’re very good in academics scenarios, the fundamental way of trading suit them better.
Walter: A couple of things that you say there resonates with me. One is this idea of “that’s the risk you take”. That is the risk we take. When you say that it reminds me that’s kind of the thing that… and you said “that’s the price you pay for trading this way.”
What I’ve thought you’re going to say is “that’s the risk you take for not getting up in the morning and donning your shoes and going off to a job” or whatever. That’s what I thought you’re going to say.
The guy who goes to his job as an insurance salesman, most days he knows when he gets home. He’s basically punched the clock and he’s made money but, you can work all week as a trader or all month for that matter and come out on the short end. It’s the simple things that you need to keep in mind.
Again, if you’re a business owner, maybe you’re ice cream shop isn’t doing so well and you’re losing money. You’re paying the people on the payroll and you’re buying the ice cream but it’s not selling. You’re paying rent for your location and for the freezers, electricity bill, and all that stuff.
You have to keep that in mind. As traders, we really do have really, really low expenses. You’ve got your internet, you’ve got your computer, or phone, or whatever you use to trade. Then you’ve got your trading stake and there’s isn’t really much beyond that.
You can have some backup internet, that’s a good idea but other than that, what else are you going to spend it on? You’re going to spend it on your losses or when you pay rent just as any other business that pays rent. I don’t think that that’s necessarily a bad thing at all.
Darren: I’ve got another — what’s the date now? It’s the twenty.It’s a losing month for me. We all knew that if the EU referendum is going to happen — and I suppose you could say we could predict that — conditions will be uncertain and more difficult to trade. You could argue that a smart move would be to perhaps have a break.
Then you’re being too cautious, you’re being too risk-reversed, and other traders have done well this month. They just happened to be on different timeframe and things worked out for them despite the fundamental situation.
It’s quite hard to find retail traders that do use fundamentals now. I’m not an expert on it, by any means. For me, it makes sense to basically ignore them. If you’re not comfortable with them then why include it if the numbers play out?
For me, I’ll just keep on trading, accept that I’ll have a losing month. Hopefully, next month will be better.
Walter: If anyone who has probably gone back and back tested, they’ve probably have seen months like this. If you have traded your system over the last twelve years, I’m sure that somewhere along the line, you have a month like this.
Maybe it’s a month a year, maybe it’s a month every year and a half or two years, or whatever. I’m sure these things come up. To me, the funny thing is the very fact that those people were trading, essentially, the same system on a lower timeframe are doing well, tells us really all what we need to know.
It’s one of those things where people say trend following doesn’t work anymore, trend following is over. The trend following funds aren’t making money anymore so it’s all done and the market have changed, this isn’t going to work anymore and that sort of thing.
Then, of course, the next year all of those trend following funds have a better year. It’s hilarious, really. If anyone is thinking about investing in a fund, one of the best time to do it is to wait for the financial journalist to jump on the trend following funds and talked about how they don’t work anymore.
I’ll tell you what, you can go back and look at the articles and then compare them to the data and I can give you some links on the show notes for this episode. It’s pretty funny to me how that magic works.
My guess is that, for the people trading on your timeframe, Darren, what will probably happen is right about the time that everyone has decided “well, this isn’t working anymore”, it’ll probably will have a better week or better month or whatever.
That’s one of the things that we have to remember about the market. I don’t think we’re really designed to trade them well. I think we’re designed to make a lot of mistakes. You have to fight that.
When you’re feeling yourself going strong on a direction such as “this isn’t working anymore, I’ve got to dump it, the market have changed,” that may mean that the tides are about to turn.
If you just stick with it a little bit longer, you’ll see it’ll completely turn around. It’s something that some traders should think about. If you don’t believe this, or if you do believe this, you may want to go back and look historically and test this out.
It doesn’t mean that will what happen in the future but testing this out, you can see if this is true, that after the deepest drawdowns, that’s when the market runs up. I think that you’ll find that it does.
In fact, some of the traders who’ve posted their backtesting data in a forum, Darren, that’s the same thing. If you go back and look at their equity curve, you’ll see right at the end of a deep where they have a drawdown is really a steep move up out of it. It happens almost universally.
It’s something that I would consider if I were trading a system that were in a really bad drawdown. I would keep in mind that as long as I’m confident in the system, it’s probably just a really bad drawdown.
Darren: As long as you’re not trading too large a position to deal with a drawdowns, then you’ll have to be a bit conservative on the size of your positions. As long as your account isn’t all of your funds to trade big, as well.
I hate to think that I will blow a trading account completely again but I know if it did, if I did, it won’t be all of my money. You have to be realistic with the risk, certainly.
Walter: One thing that I have to ask is, talking about the fundamentals, have you ever seen for example, they have this news channel — a financial news channel, where in the State they have CNBC, Bloomberg, MSNBC, or something like that — they have these… what do they have? Sky News, Beone, some of the other ones I forget, Financial Times.. Have you ever sat and seen like the complete rainbow of flavors that come through?
Sit someone down, some expert –doesn’t matter if he’s an economist at a bank or a hedge fund trader or whatever — a hedge fund owner and they’ll say “what do you think about China this year?” “What is going to happen in China? Is the bubble going to burst?” Or, “is there a bubble?”
What’s funny is they’ll prey these people through and every single one of them has a different take on it.
Darren: Did someone run twenty years of test on what the top funds and bankers and economists have predicted to see if following their signals was worth anything? At the end of the day, the best that you could have expected was breakeven and you would’ve been much better off just to do a buy and hold on the SMP500 or something.
It’s why I don’t like trying to predict what happens next, really. I like to see it as a numbers game. The people who trade with a strategy, and they accept that, tend to be more consistent over the long period.
Walter: I like to think about who’s on the other side of the trade because we’ve got all these opinions, all of these people think are “I-think-so”. If I’m going in and I’m taking a trade with what I consider to be with the trend so I’m a trend following trader, I’m going with the trend I think to supplicate.
When I go in that trend, who’s on the other side? The market is made up of opinions and these opinions are placed into the market in a form of risk and so, who’s on the other side? Who are these people that are on the other side?
This is why it gets so into the open position ratios that a lot of retail brokers are now offering you data on this. You can see what percentage of the traders with this broker are long the EUR or short gold or whatever.
I like to be in that little small group of traders that are contrarians. The people that are going against the crowd because I know that most of the people who are voting, who are putting those, who are helping the broker create those pie charts, most of those traders aren’t making money.
Sadly it’s true and so if we can make sure that we’re not in that little group, I feel much more comfortable just in life trading certainly and being in that little group. I just don’t like to feel like I am following the herd because I know that the herd often just run right off the cliff.
Darren: Are you doing that from what you see on the charts? You’re doing that from the charts rather than, basically, the fundamentals that I used? You’re looking at the charts and from that you can assess the consensus in the market.
Walter: No. Well, the charts are definitely a part of it, absolutely. The chart would be a signal but you can get from your broker… You can get the data that says “of all the traders that we have” — for example, IG market offers this information and so does Oanda — and say “look, of all the traders who were in silver right now, seventy nine percent of them are going long on silver and only twenty one percent of them are shorting silver right now.”
What I want to do is I’ll keep an eye on these numbers because what I want to do is wait ‘till that gets really extreme so that we’ve got eighty five, eighty six, eighty seven percent of the market is doing one thing.
Then I’ll look for a signal on the other side so I’m part of that twelve percent, thirteen percent on the other side. It’s almost like I’ll use those data as a watch, as an indicator. “Looks like the AUD/JPY is getting close now,” so I’ll go to the AUD/JPY chart and see if I have a signal. It isn’t really a fundamental analysis — I guess, it is in a way..
Darren: It’s technical.
Walter: Yes, in a way. It’s just contrarian trading. You’re saying most of the retail traders are really, really bullish on the EUR right now. That means that I want to look for reasons to sell it. Doesn’t mean I am going to sell right now, it just means that I want to look for reasons and then go on to the charts and dig in there to see if there is a reason.
Darren: Right. Then you’ll look for the chart pattern to confirm that they might be badly positioned, basically.
Walter: Exactly. If you look at historically, because people will sometimes say “well, that doesn’t sound right.” Surely, it would be the other way around or whatever but if you look at the historical data, they’re actually on Oanda’s, which I will link up in the shownotes here.
You can actually see price, too. They’ll map price on to the open position ratios. You can see how price moves against the crowd. You know what I mean? It’s awesome. It’s great.
Darren: If you think about it logically, it has to. If price moves up and down then everyone has to be buying when it’s right at the top for it to be wrong and then for it to fall down again. To be right on the top, everyone surely must be buying.
It’s quite logical to me. If you’ve got anyone to develop an indicator that you can just put on your chart.
Walter: No, I’m sure that there probably is one out there for MT4, or something like that. The other one that I’ll link up for you guys, have you heard of the Fear and Greed Index? I think it’s called the Fear and Greed Index.
Darren: I have heard of it.
Walter: I think money magazine puts it out. I’ll link it up for you guys on the shownotes. Basically, that is a hodge podge of different markets and you look at that and see “well, is everyone really greedy right now? Are they all buying or they’re selling or somewhere in the middle or, is it fairly neutral?”
From time to time, you can actually find particular markets that will work as a greed index as well. Like for a long time there, the GBP/JPY isn’t a good one. Looking at the GBP/JPY in 2006, 2007, 2008, in that area you would see how as the GBP/JPY went up. That meant the market was, basically, really there’s plenty of traders who were interested in being greedy.
Other ones like Google or Facebook stocks or some of these darling stocks, like Apple, you can watch those too. As they really get pumped up and go higher and higher, you know the market is okay with greed.
They’re getting very greedy right now and as they start to collapse and fall, you know that there’s a fear in the market. It’s another way of using that as a proxy for what’s the general tone of the market.
I think it’s a really useful thing. The thing that people don’t what to get mixed up if they get into this, this grab-a-hold, is you want to make sure that you’re not going against the pros.
You can get data on where the pros are in position too especially in the future markets. You can see where everyone’s long the EUR — well, the pros long on the EUR. That doesn’t mean that you should necessarily short it because it’s very different to the retail world where we know the mad pod traders are more likely to lose.
Darren: Yeah, sure.
Walter: Okay. So, Darren, in summary I guess what I want to say about fundamental analysis and should that come into your trading, I suppose it depends on the individual. I don’t think it’s necessary. One of the common question I hear from traders is “Hey, Walter, so you’re doing these Naked Trading setups. Do you also use fundamental analysis and stay out of certain News Times and these sort of thing?”
In general, my answer is no. I don’t think it’s that critical. I do stay out the day before the nonfarm payroll. But I’m really questioning whether that’s the right thing to do either at this point, especially if you’re trading the daily or the weekly chart. I don’t think it’s really that critical.
The best thing to do, for me, is to make sure that I follow my system and that includes taking trades even when there’s impending news coming. For me, I don’t try to interpret fundamental analysis. I think it’s very difficult and it is for a lot of traders, really.
I suppose it does depend on your approach, your beliefs, and if that’s really something that’s critical to your decision making then go for it. That’s where I side with the fundamental analysis question.
Darren: Yeah. I’m with you, Walter. There’s no right or wrong answer to this question. It’s really a case of finding what fits best for you whether you’re going to stop trading or make any changes or literally take certain abit of all.
Walter: Excellent stuff. Thanks a lot for the topic, Darren. This is a good one. I will catch you next time.
Darren: I’ll see you next week, Walter.
Walter: See you.