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This time we get lucky and the rate slumps well below our profit target. Holding on to thatlast third lets you take advantage of these situations.
 
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The trend is still definitely up (below), so do not even think about fading the move higher.All that we were looking for was a quick, easy trade.
 128 Beat the Forex Dealer
 
 
   
 
 
 
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Close but no cigar!
e Remember that we are not here to predict the future (reversal or continua-tion?); we are simply riding the dealer’s coat-tails. It might continue higherfor another 50 pips; it might top-out and collapse. Either way we do notcare; we are in it for the low-risk 10-15 pips that the dealers are generous
enough to cough up for us.
° Generally, we only want to trade the first stab above the big figure, since
that is the one hiding the stops.23
The Friday to SundayExtension
 
Another typical FX pattern that can be exploited by traders is the Friday to Sundayprice extension. This simple yet by-and-large correct assumption is the fact thatprices will open the new trading week (Sunday NY time) in the same prevailingdirection as they closed on Friday evening. After the weekend, Sydney tradersgenerally do not have the oomph or desire to reverse any meaningful decline seenin NY, and are therefore happy to see prices steadily drift in the direction NY leftthem until Tokyo comes on-line. Most of the time this behavior is not something totrade actively, but rather something to keep in mind if nursing positions or enteringa late Friday trade, meaning that traders should not rely on a miracle reversal onSunday to get them out of a jam. Once Tokyo and London enter the market thedirection may be reversed, but often those traders nursing losing positions will havealready been stopped out.
After a Friday with extreme volatility, however, this typical pattern is enhancedand turns into a low-risk trade opportunity for traders. The reason this trade worksis simple. On economic data-heavy Fridays, prices often end up several hundredpips away from where they started the day and leave Sydney dealers with a messon their hands by the time they get to work early Monday morning. As they gothrough the motions of processing the outstanding orders that the moves in NYhave created, this activity often shows up as a Sunday morning “bump” created bydealers trying to fill their orders in a thin market.
This scenario is illustrated above. A big economic number released in the NYmorning causes prices to jump wildly in both directions (1). Eventually, the marketsettles on a direction and proceeds to follow it for the rest of the day, and onceEuropean traders go home liquidity quickly dries up and NY traders begin to plantheir weekends. In this 3-5 pm window, the price will thus slowly trickle in thesame direction until the close of the week (2). Although you may have somelate-minute stop hunting by dealers, it will be in the same general direction since132 Beat the Forex Dealer
 
GBPUSD 5m Chart
 
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The pattern is always the same: volatility spike, pre-weekend window, Sunday extension.
the market is too thin to stage any kind of meaningful reversal. This window ofopportunity enables traders to safely enter the market in anticipation of a Sundayextension, confident that they will not be stopped out before then. When Sydneyopens the new trading week, the move is quickly extended a further 20-30 pipsbefore settling in for the Tokyo open (3).The Friday to Sunday Extension 133
 
By entering in the general market direction during the 3-5 pm window, youcan position yourself ahead of the market and probably against most retail traders.If cable had a dramatic Friday selloff in NY and dropped 300 pips for the day,conventional wisdom would state that the market was deeply oversold and due fora rebound. If forced to choose, most traders would prefer to take the long side,when in reality the probability is much higher that the pair would continue to tradein the same direction (at least until the Tokyo open). This high-probability outcomecombined with a limited downside gives this trade great risk—return characteristics.
Trading the Friday to Sunday extension is simple, yet highly effective. All thatyou have to do is close your eyes, enter in the prevailing market direction duringthe 3-5 pm window, and return on Sunday evening (NY time) to collect your10-30 pips. Talk about making your money work while you sleep!
 
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The extension is visible in most USD pairs, and can be actively traded by entering themarket during the 3-5 pm window. When the market opens again in Sydney, make sure toget out with your pips before Tokyo joins the fray.
KEYS TO THE TRADE
° Don’t be foolish enough to catch a falling knife; trade with the dealers, notagainst them.
° Since the economic news released impacts the USD, make sure to tradeUSD pairs only. Other crosses may trade in a wider and choppier range,which increases the downside risk.134 Beat the Forex Dealer
 
 
 
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Thankfully, the dynamics of this trade limits its downside. Even when no price extension isseen, the lazy Sunday market will enable you to exit at cost or with a small loss.The Friday to Sunday Extension 135
 
° Don’t trade the AUD or NZD crosses since you want to focus on thinlytraded pairs and they are at the height of liquidity during these times.
. To limit your downside, make sure that no important news events are sched-uled to take place during the weekend (G7 meeting, elections, etc.) sincethese could have huge ramifications on price.24Sticking it to Your Dealer
 
Traders shudder at the mention of the term “slippage”, since it implies getting aterrible fill. The amount of slippage a trader receives often depends on the coun-terparty, who may either have slow dealers or difficulty finding liquidity in volatilemarkets, both of which can exacerbate the problem. Either way, slippage is amatter-of-fact problem in most fast-moving or illiquid markets, and as you mayhave noticed it usually goes against the trader.
When was the last time you heard: “Your buy order was actually filled fivepoints lower, sir”? I’m guessing never. This is because in the case of any gaps orlarge sudden price swings, the dealers pass along the cost to the client but pocketthe difference if it gaps in your favor (you had a buy order at 30 but it gappeddown from 40 to 20, never trading in between). The advent of on-line FX brokersand their “guaranteed” orders were supposed to change that, since the extra profitmargin by way of inflated spreads would more than make up for any short-termlosses suffered by the brokers. A couple of years back, during one particularlynasty NFP release, a prominent retail broker stuck to their guaranteed executionpolicy even as prices jumped 300 pips, and quick-fingered speculators took themfor a cool $5 million in the process. Needless to say, after that day the guaranteessoon went the way of the Dodo.
There may not be any more guarantees, but the reasons for the broker’s lossesstill exist, and you can take advantage of that weakness. As we saw in the BigFigure Trade, on-line FX brokers need to make a market for their customers, evenin illiquid times. Ordinarily, the price they quote you is a synthetic rate created bytaking the bid/ask of the quotes they receive from their counterparties, and althoughtheir pricing engines are all fully computerized and calculate at blazing speed, theirquotes are still not quite as fast as the quotes they receive. Thus, there is a smallprice lag between their prices and the actual interbank market, which is referred toas price latency. To the smart trader, this is the equivalent of a time machine.
Imagine if your brokerage firm let you trade off the 15 min delayed quotes fromyour TV while you were looking at live prices. That would be a money-makingproposition to say the least.138 Beat the Forex Dealer
 
After performing a brief review of several retail forex platforms (there are nowdozens), one can immediately notice a discrepancy in pricing. When compared to alive EBS feed, some prices are relatively fast, others are slow. This lag can becomea big inconvenience if you are trying to get out of a profitable position (since theirprice will be slow to catch up or, worse, never even trade there), but it can becomea big advantage when entering a position.
In normal trading the price lag is nothing to get excited about, since the price maybe a pip or two away from the actual interbank price. In times of high volatility,however, the discrepancies can become large and inviting for the cunning arbi-trageur. In volatile markets the retail pricing engines have a tough time creating aprice since liquidity is thin and their inputs (the prices they get) may be all over theplace, making it impossible for them to create a proper price. In times like these,true interbank dealers simply widen their spreads to limit their exposure, but retailbrokers stuck with fixed spreads resort to either freezing their prices or switchingto manual (dealer-controlled) execution.
After a couple of seconds or minutes the flows smooth out and pricing returnsto normal, but by that time you may have already walked away with a handfulof risk-free pips. In theory everyone should be able to do this very easily andconsistently, although it does take a degree of patience and diligence that may notbe everyone’s cup of tea.
Here is how it works:
Step 1. Identify a Faster Price Feed Than Your Own
This can easily be done by placing different platforms (demo or real) side by sideand comparing their performance during news events and generally volatile times.You can also choose to receive a direct Reuters or EBS feed (through Bloomberg),but that is usually not cost-effective for the small trader.
Step 2. Place the Fast Feed Alongside Your Slower Tradable Feed
If you find that your own platform is the fastest, then you might want to considerswitching to one of the slower ones to take advantage of this situation. I have foundthat UK-based forex brokers tend to quote faster prices than their US rivals, sincethey often use a modified Reuters feed for their pricing engines.
Step 3. Pick the Hell out of Them
I tested this strategy by opening an account with one of the NY-based forex retailplatforms and traded alongside a Reuters feed. In one week of trading I managedto collect more than 200 risk-free pips. No princely sum, but there is no reason notto take it if the market is giving it away.Sticking it to Your Dealer 139
 
Obviously the brokers are aware of this situation, and they are constantly tryingto upgrade and speed up their price engines. Often they are forced to take pro-activemeasures when faced with volatile trading, and the first thing they do is anticipatevolatile, and possibly hazardous, times. This means that at 08.30 NY time theyswitch to manual prices, and if ‘important’ numbers are due they may protectthemselves by simply rejecting all incoming trades. Trading becomes impossible intimes like these. This is another dirty trick played on FX traders by retail brokers.
Is this legal? Of course it is!
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BID/ASK
 
Side-by-side comparison of three tradable price feeds before economic news hit the wire.You can see the arbitrage opportunities created by a slow feed, which lets you buy eurosnearly 10 pips below market price immediately following the news release.
If your broker is quoting you delayed prices it is their problem, not yours. Donot think twice about taking some risk-free money from the brokers, since withtheir inflated spreads, stop hunting, and generally unfair attitude they are robbingthe average trader blind. Consider this to be payback time for all of those stopsthat were needlessly run and the horrible fills you received. Although you may getpegged as a “picker” after a while, why not make a few bucks in the short run?140
Beat the Forex Dealer
 
 
What a difference a pip makes!
Spreads are often overlooked by individual traders as simply "theprice you pay to play", but even a one pip difference in a spread canhave a big impact on an active trader's returns.
Calculating the cost of trading:
Active trader trades 5 times a day
250 trading days/year
Each position is opened and closed (x2)Account size is $50000
Position size is $200000 (leverage 4)
This trader's annual turnover is thus: 5 * 250 * 2 * 200000 = $500 million
eee eeNow let's calculate what your broker pockets
(annual turnover * spread)/2 = spread cost
3 pip spread 2 pip spread(500M * 0.0003)/2 = $75000 (500M * 0.0002)/2 = $50000
The cost of trading with a 3 pip spread vs. a 2 pip spread is $25000, or50% of the account equity! Transaction costs are the number one reasonwhy active traders typically fail in the long run (in any market). An activetrader would have to generate $75000 in profits (150% return) simply
to break even. Meanwhile, traders are convinced by their FCM that FXtrading features no "commissions" and the cost of trading is minimal.
‘Source: OANDA. FX Trader's Bill of Rights. 2000
KEYS TO THE TRADE
Be on the lookout for news events that are not “obvious” and time-defined,such as Fed speakers, consumer confidence numbers (generally come outin a 15min time window), and second-tier economic news like the BeigeBook, etc. One can also take advantage of their slower prices during normalmarket moves, which are sometimes quick and brutal.
Try targeting more exotic pairs, which are not monitored as closely bythe dealers. Most big houses have a euro desk and a Sterling desk, butfew houses have a Kiwi desk, for example. Price discrepancies in exoticsare less easily noticed by dealers, and may last for a while until they arecorrected. (I once caught my broker sleeping and was able to buy GBPJPY30 pips below the actual market price!)Sticking it to Your Dealer 141
 
° To enter the trade, look for the discrepancy to be large enough to at leastcover the spread, giving you a risk-free trade. Normally, all trades shouldbe closed out rather quickly, but on the rare event that you jump on to abig move take some profit and place a stop at entry for the rest and seehow far it goes!
e Remember to take a screenshot of your open trade just in case your brokerdecides to “take back” the trade. 
THE FUTURE25The End of the Beginning
 
From a big-picture perspective, the two great problems facing the FX market areliquidity and correlation. Although your trading platform’s marketing may paint arosy picture of increasing volumes, limitless liquidity, and countless counterparties,the reality is a little harsher. Liquidity is not increasing in the markets; it is eitherstaying the same or more likely is declining. There is simply a finite amountof liquidity to go around, and although the methods of accessing this pool haveincreased, the actual amounts available to trade have essentially stayed the same.All of the new electronic prime brokerages and dealing services are now tappingthe same well that has long been controlled by a few of the largest banks. Withmore and more platforms now granting access to this fixed amount, it may createthe illusion of increased liquidity (you now have three price providers instead ofone), but in fact they are simply slicing up the pie into smaller and smaller pieces.
This never seems to be an issue in good times and overall positive sentiment, butin times of turmoil it can prove deadly as moves tend to get magnified. News eventsthat once failed to inspire traders are now turning into market-moving events thatdry up liquidity and produce sharp intra-day swings, creating ever-more choppytrading conditions. Although the volatility may prove momentary, a sleepy marketis often the most dangerous one for traders, and at the time of this writing the forexmarket has been sleeping for a bit too long.
The new millennium has so far been characterized by a framework of low volatil-ity in which some currencies remain essentially pegged to the US dollar (mostnotably the Chinese renminbi), which some are calling Bretton Woods II. In aneffort to dampen exchange rate volatility and spur global growth, central banks haveso far mostly coordinated their policy moves and moved together hand-in-hand. Forthem, this low volatility has had the added benefit of driving many speculators outof the FX market, since in theory if all countries successfully target 3 % inflationthey will all end up with the same interest rates (effectively killing currency spec-ulation). This level of cooperation and low volatility is not very likely to last inthe long run, however, and the dramatic trade imbalances we see today shouldsooner or later translate into a rocky period. BWII will be severely tested when146 Beat the Forex Dealer
 
these imbalances are eventually corrected and the liquidity issue will once againjump to the forefront of trader’s minds.
In our increasingly interconnected financial world, when markets drop tradersnow say that “the only thing to go up is correlation”, and in a time when tradersacross the globe can instantly sell whole portfolios (i.e. emerging markets) at thehint of a problem, it is no wonder that all eyes are now on China. Their mountainof dollars has essentially become a leveraged play on the US consumer, and if theoutcome of this game leads to the death of the US dollar then a series of eventsare likely to take place that could prove harmful to the FX industry.
Instead of actually addressing the core problems facing the country, politicianswill predictably choose to take the easy way out and vilify you, the trader, andimplement over-the-top regulation. Currency speculators be warned!
All of this is far from certain, of course, but if currency fluctuations do indeedbecome more extreme then it is not hard to imagine some sort of exchange controlsbeing implemented in the US that would limit the average person’s ability to moveand exchange dollars freely. This would prove to be a sad state of affairs, butpoliticians tend to reach for the closest scapegoat, and FX speculators will at somepoint in the future fall into this role. It is for this reason that I urge all readers toopen and fund an overseas bank account. It is completely legal (you must reportit to the IRS) and it will offer you a way to diversify your savings and tap theworld’s markets even if exchange controls are implemented down the line. Thehoneymoon period for retail FX is coming to an end, and traders should preparethemselves in advance of any future legislation.
Currency trading should not be the realm of mega-banks and billionaires; every-day people should also actively participate in the market. I would even argue thatmost people simply do not have a choice. In our interconnected global world, youare going to be affected by exchange rate moves whether you like it or not, so youmay as well play a pro-active role in securing your future. Whether spot tradingon a margin basis is the right way to go about it is debatable, but all investorsshould find some way to hedge or speculate on currencies, either through a foreignbank account, ETF, or an FX trading account. In the end, the way you choose toparticipate is up to you and should reflect your needs and goals.
ITIS UP TO YOU
Where will the dollar be a year from now? Frankly, nobody knows. Althoughthere is plenty of money to be made in forex trading, it is definitely not in currencyforecasting. In order to reach this pot of gold you have to be able to find anapproach that accurately trades market corrections rather than predicts them, sincetechnical and fundamental analysis are simply not enough to beat the crowd.
The secret to success is actually not such a big secret. Everyone knows that withproper money management and a half-decent strategy you can make money. Yetmost still find themselves failing.The End of the Beginning 147
 
To become truly successful, if you are a beginning trader you should immerseyourself completely (and I mean completely) in the subject in order to find youredge. If you are already a winning trader, then you had better make sure that youunderstand exactly what your edge is. What is it that sets you apart from the other90 % of traders? Is it sheer luck or something different? Knowing what keeps youin the game is the only way to find your way back during tough times. In the end,no one can ever hope to master the FX market; but for those that manage to set thedollar signs apart and focus on the intellectual enjoyment trading provides them, afortune usually lies along the way! 
TRADING HOW TO’SHow to Set Up Your Trading
 
With decent money management rules and some form of trading strategy in yourpocket you are ready to begin conquering the FX market. Yet regardless of whetheryou are trading systematically or discretionary, before you begin trading for theday you must first feel confident in your trading environment. If the FX market isa battlefield, then you are the general and your positions are your troops, and youwant to make sure that you have a firm grasp of the terrain before sending any ofthem in to fight. Having a set game plan enables you to not only react quickly infast-moving markets, but it also helps take some of the decision making out of theequation by pre-planning the moves ahead of time.
There are a few, simple things that every trader should do in order to stay incomplete control of their trading environment.
UNDERSTAND THE BIG PICTURE
The best way to start your trading day is to begin by looking at charts from a bigtime frame to small. Start with the dailies, then zoom into the 4hr, 1 hr, 15 min, etc.If you don’t know where you’ve been, then you can’t possibly know where you’ regoing. FX trading is as much about reading the past as it is about interpreting thefuture, so make sure to ask yourself: are we in a ranging or trending market? Haveany significant long-term patterns developed (see chart A.1)?
Only a cursory look is needed at the daily charts, but sometimes overnightmoves will have created significant developments (broken trendlines, Fibonacciretracements, etc.) that will be missed if your attention is squarely focused on theshort-term charts. The following steps should be taken to get a proper feel for themarket:
1. Establish the general direction
Figuring out the general direction should be rather easy. Candlestick analysis andmoving average ribbons (chart A.2) are elegant ways of identifying long-termpatterns, reversals, or meaningful set-ups.Beat the Forex Dealer
 
 
 
 
 
 
 
 
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” Expansion indicatesstrong trend
MOVING AVERAGE RIBBON
Chart A.2 A moving average ribbon can instantly tell you if the market is trending strongly(MAs spread apart), or consolidating in preparation for the next large breakout (contractingMAs).How to Set Up Your Trading 153
2. Figure out the daily trading range
A good daily trading range shows you where the vast majority of the movesare expected happen, and any moves outside of the range should be viewed asshort-term abnormalities that can be faded.
 
 
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