I’ve been thinking about this for a while and while I can’t say that I’ve read through every trading strategy, what I have found through my years of experience is that in order to make real and lasting profits you need to attune yourself to the Major Fundamental Events (MFE’s) that set the trends-and then get in when price is most advantageous.
When I refer to Major Fundamental Events I’m not just referring to the monthly reports, although those can be used along the way. I’m talking about something that can cause a radical shift, which I’ll explain.
One thing before we start though-these MFE’s may only happen a couple times per year, if that. That’s OK though, because these trades are going to yield 1000’s of pips. One trade may last for weeks or months.
Also, we’re not at the start of an MFE now, at least in my opinion.
As you might have guessed, an MFE can be (and usually is) initiated by the Fed although certain earth-shaking events (the Lehman bankruptcy for example) can certainly do the job. Sometimes several MFE’s can occur simultaneously which is great because those tend to build on each other, strengthening the trend.
The 2 keys for profiting from this are as follows:
1. You have to recognize when an MFE has occurred.
2. You have to understand how markets will be affected after the MFE has occurred and the correlations between the different asset classes (currencies, stocks, bonds and commodities).
The most recent MFE began on March 15, the day of Bernanke’s 60 Minutes interview in which he said the Fed was â€œelectronicallyâ€ printing money. Go to this page: http://video.google.com/videosearch?…um=4&ct=title# and see the “The Chairman Part 1″ video at about 8 minutes in.
Itâ€™s true that economists and commentators were talking about the Fed printing money before the interview because everyone was well aware that the Fed had already expanded its balance sheet (quantitative or credit easing = money creation).Â But the Federal Reserve admitting it on national television was a whole different matter in my opinion. The dollar bear market began in earnest from there while stocks, commodities and Treasury yields rose.
In other words, Bernanke created a rally in risky assets because he convinced investors that the value of the so-called safe assets (the dollar and Treasuries) would depreciate.Â What also was interesting about this MFE was that none of the so-called experts, including the financial press, picked up on it.
Then again, none of the so-called experts said anything about what would happen to the dollar after Lehman went bust either, including such luminaries as Jim Rogers who’s been a commodity bull forever (and who got crushed in the 2008 commodity collapse) as well as Peter Schiff who also lost his shirt because he didnâ€™t recognize that a dollar-boosting flight to safety would occur after Lehmanâ€™s bankruptcy.
Why did Bernanke make the radical decision to allow himself to be interviewed on 60 Minutes? I think that it was because despite all of its previous balance sheet expansion, the Fed to that point had been totally unable to accomplish its goal of boosting stocks and creating some measure of inflation (making commodities more expensive) by weakening the dollar in order to counter the far more dangerous deflationary pressure of the financial crisis. The S&P had made a fresh low just one week before and had declined nearly 58%. No question they were concerned that all of the actions taken to that time could potentially fail, sending the global economy deep into a depression.
By the first week in June, the S&P had gained about 40% from the March low. The dollar had lost thousands of pips to the euro, pound and A$, oil was threatening $70 and yield on the benchmark 10 year Treasury was up near 4%. That created another set of problems for the Fed however, because of the detrimental effect that rising energy prices and interest rates naturally would have on consumer spending and housing (because of rising mortgage rates).
From that point, the Fed began a serious effort to talk up the risks of deflation (while talking down the risks of inflation) and from there, the markets basically went sideways. In other words, just as his efforts to convince investors that the dollar would depreciate helped boost markets, his deflationary concerns helped throw cold water on the rally he created with his printing-dollars comments.
Market correlations are pretty straightforward once you realize something:
When you trade spot forex, you’re trading pairs-GBP/USD for example. When you buy the pound you are simultaneously selling the dollar. When you’re trading currency futures, the contract is listed in euros or pounds or A$’s-there’s no “pair” in futures. However, despite that you’re still “selling” the dollar when for example you buy the euro contract because you are trading in dollars and your contract moves against the dollar.
It’s the same thing for any instrument which is priced in dollars no matter what the asset class is. So when for example you’re buying a stock, for all intents and purposes you are “selling” dollars-your bet is that your stock is going to appreciate against the dollar.
Think of it this way-if an asset class priced in dollars goes up, what does it go up against? The dollar of course. So when all of these asset classes are appreciating, it tends to put downward pressure on the dollar.
It’s the same for the S&P-the S&P is priced in dollars so for all intents and purposes if you are long the S&P you are short dollars.
So think of it this way:
How about bonds (Treasuries)?
First, by convention, when people say bonds are up or down they are talking about price.
Second, bond prices and yields move in opposite directions for a very simple reason: If you buy a bond today for $1 that yields 2% and yields go up tomorrow, of course the bond you just bought is going to be worth less simply because it yields less.
Stocks and commodities are risky assets while Treasury bonds (and notes and bills) are “risk free.” They’re risk free because if held to maturity your principle and interest are guaranteed by the full faith and credit of the U.S. government. So when the market is “risk averse” (like it was after the Lehman collapse, another MFE)), stocks are sold and bonds are bought.
So in general, stocks and Treasuries are inversely correlated. We saw that after Lehman and we saw it happen again after Bernankeâ€™s little interview.
It all comes down to investors appetite (or lack thereof) for risk, which obviously is heavily influenced by what I call Major Fundamental Events. â€œRisk aversionâ€ places tremendous upward pressure on the dollar while the acceptance of risk has the exact opposite effect.
That’s why you want an MFE to occur-things can only move one way after one happens and when you recognize it early, you can absolutely make a killing.