MODIFIED COT STRATEGY

Students of my FXOptions classes know the power of Commitment of Traders, some even swearing by it, and laughing all the way to the bank! The returns on COT trades are staggering, as proven by real trading records from our students and even trading scenarios on PFX. But COT trading has its disadvantages in running large drawdowns in your account. This could be OK under normal circumstances but what if VIX is above 30 and is going up, like the current scenario? A high VIX is bad, and could lead to "abnormal" drawdowns which could cause YOU TO CAPITULATE INSTEAD! So how do we take advantage of the COT on the USDJPY when VIX is high?

Use a modified COT strategy which limits your losses on each lot. You can start buying USDJPY at the spot market, and keep on buying as it falls by 100pips. For each lot of USDJPY, you should buy 1 Protective Put Option (you can do this on ThinkorSwim or Saxobank) which expires this Friday (Options Expiration, although you can go longer on Saxobank). Even as the USDJPY goes against you, the effect of the Put Option is to limit your max loss to the cost of the Put. (This is a weird strategy because YOU WANT USDJPY to GO DOWN, DOWN, DOWN....). Once capitulation occurs, you should buy back the puts, which should have some time value left. This will allow you take advantage of the move up without suffering massive drawdowns. The drawing belows depicts this in graphical form.

For a more in depth tutorial on Protective Options, go to this link at PFX Global.

Happy Options Expiration!

Chief Shook

WAITING FOR VIX and VXO

The market just wants to go down it seems. Even a coordinated injection of over US$200billion has failed to calm nerves. Good CPI number? Yup, only to be torpedoed by the news of a bailout of Bear Sterns (by JP Morgan and the Fed, of all people). The VIX also closed at 31.16 which is the highest VIX close since March 2003. It's obvious that we're going into what will be a
volatile and roller coaster Options Expiration week. In addition, Put/Call ratio (CBOE) is at 1.16, the highest since, you guessed it, March 2004. So March seems to be a month of extremes! (and we thought it was October). It becomes clear that fortune favours the brave in March.

Looking at our "Triangle of Hell", the SPY is increasingly underpressure to test its support of 127.5 and its low of 125. If this breaks, we should see 122-122.5 and if that breaks....err, I don't want to talk about it since we'll have to seet the monthly fib retracements to get an idea of where we're going to (hell, that is).


It's possible that we have some ways down to go, which could result in"a bottom" (don't ask me whether it's "the bottom"). There are several reasons for this (aside from VIX and Put/Call extremes):
1. The market looks like it's extremely oversold (which is not a reason to buy the market anyway, since oversold leads to more selling) with pessimistic extremes. Notice how market turns happens when chicken little cries that it's the end of the world (for Bear Sterns investors, it probably is)
2. The Yen, which is a barometer for risk, is showing extremes with commercial traders at 0 (short yen) and specs at 100 (long yen). The recently released CFTC data shows specs reducing their long yen and long euro positions. This could be the recipe for a blowoff top (or bottom). I am encouraged by the Yen's movement which hit our 261.8% fib target at 99.15 which means a recovery rally is expected.
3. Historically, this could be "March madness" - when such extremes last happened in March 03 and March 04, the markets popped up.
4. Central Banks are in an intervention mode nowadays as can be seen from last week. The Bank of Japan could spring into action and stem the rise of the Yen, saving its manufacturers.

So how do we take advantage of this situation? First off, we shouldn't panic ourselves. Once we get this pyschological thing, then we have to lay the trap door for the frightening apex of VIX which could occur soon. In this case, we are waiting for extreme panic in the market, with VIX spiking to at least 37, with breach above 40 highly probable (in the late 1990s and early 2000s, the VIX spikes were at 45-50). Once capitulation occurs and is supported by VXO moving inside the Bollinger band, we have several choices:
1. SHORT the reverse proshares of the Dow (DXD), S&P500 (SDS). You get more bang for the buck as it moves twice as fast as the Indices themselves, i.e. DIA and SPY
2. BUY the ITM Options on the DIA to catch the fast and furious capitulation rally
3. BUY stocks which have held well during this rally, for example, those in the commodities complex, particularly agriculture and gold
4. Do a COT trade on the USDJPY (or AUDJPY) in 100 pip decrements. Note that your account must be able to sustain drawdowns. As the shorts clear their positions, the run-up will be fast and furious
5. Buy ITM April call options and increase your position as the USDJPY goes down
by 100pips. You can do this with Exchange Traded Options on ThinkOrSwim or with
Vanilla Options on Saxobank (you can even consider a similar strategy using OPTIONS on the USDCHF pair)
6. Once capitulation occurs, lock in the value of GBPJPY for one month. Buy the currency pair and sell a call option to give you around 1200-1500 pip protection. You should cruise earning the interest differentials in the next month, which works out to US$2.60-US$3.00 per mini lot a day. Why bother trading when you can earn interest,by allocating US$1,500 per mini lot? Scared of the volatility of GBPJPY? Then try out AUDUSD and buy yourself a 350 pip hedge.

These strategies should take into consideration your expertise. Pick something which you are most comfortable with.

The chart below shows how the markets behaved on the previous VXO and VIX peaks. The
markets turned promptly, rewarding strategic and patient investors many times over.
I rest my case.....Good luck and BOOYAH!


Note: These guidelines can be implemented by students who attend my FXOPTIONS classes. Don't try doing what you don't know, especially for new traders. Learn first lah!

Chief Shook

WAITING FOR CAPITULATION

The markets are in a doldrums, as the NFP (NonFarm Payroll) reports confirmed another minus
63K of job losses last month. The US looks like its in a recession, or is it? The S&P500 has
taken a hit and has broken down our so-called "triangle of hell." Fxoptions course students can
see the fake out to the upside of the triangle which was eventually stopped dead in its tracks.
(Fxoptions students would not have traded this fake out because they knew the market was going down due the commitment of traders on the VIX as well as the 10 Year Treasuries futures....How smart is that?). Look at the Triangle for yourself.

I am eager to see how the KLCI does on Monday (11/3) morning. What's the implication of the ruling National Front losing its 2/3 majority? Should make the local market a good buy once we get capitulation on the S&P.

So what is capitulation and how do we recognise it? Taking this definition from Investopedia, "In the stock market, capitulation is associated with "giving up" any previous gains in stock price as investors sell equities in an effort to get out of the market and into less risky investments. True capitulation involves extremely high volume and sharp declines. It usually is indicated by panic selling. After capitulation selling, it is thought that there are great bargains to be had. The belief is that everyone who wants to get out of a stock, for any reason (including forced selling due to margin calls), has sold. The price should then, theoretically, reverse or bounce off the lows. In other words, some investors believe that true capitulation is the sign of a bottom."

Here are some telltale signs of capitulation:
1. A VIX Spike - usually to above 37. Due to the volatile nature of the markets, don't be surprised
if $VIX spikes to 45-50, as was the case in the late-1990s and early 2000s.
2. $VXO spiking above the Bollinger Band. Be careful as VXO might (and will) climb up the Bollinger
Band without peaking. You need experience to tell.
3. A sudden reversal in stocks after a seemingly bottomless pit. The recovery is fast and furious.
We'd normally like to see multiple tests of the lows before committing. Also, recoveries can take
place much later in the day.
4. An extremely HIGH VOLUME day, giving credence to the turnaround (instead of it merely being a "dead cat" bounce.
(Note; Those who are more adventurous could also wait for the $TRIN to go above 3.5)

Here's what the most recent capitulation looked like (Source: Shadowtrader, Redoption)

Happy Capitulating and make it GREEN with PROFITS!

Chief Shook

MALAYSIAN TSUNAMI

As Forex traders,we know of two important issues - the Internet and Inflation. We use the Internet to trade Forex and we know inflation tends to push up values of currencies (through interest rate differentials). Somehow, Malaysia's ruling coalition forgot these rules.....Should come to my Fxoptions classes, eh? For the political tsunami that washed away the West Coast of Malaysia (Selangor,Perak,Penang, and Kedah, not to mention Federal Territory) is the result of a well-coordinated campaign in cyberspace. These feelings of uneasiness were furthered aggravated by inflation in daily goods and services - as can be seen by the rising DBC Commodity Index (wheat and fuel have risen dramatically in the past few weeks). This created a perfect storm for the Rakyat to voice their displeasure, which they gleefully accepted in full force. The outcome was something we never saw before as the Mainstream Media were at a loss of words to report what was going on after Penang, Kedah, Selangor and Perak all fell like dominoes (count in Wilayah too, except that there's no state called Wilayah). What's my hope? That the Government and new State Goverments (they're not "Pembangkang" anymore.....he he he) work together to keep prices in check. We are still in the middle of a commodities bull run that could take prices even higher. More than ever, we need a "welfare state", albeit temporarily, or run the risk of more of the rakyat falling below the "poverty line" (be it real or virtual). And even if commodities were to come down, it would probably be in response to a recession, which is also not good. Lets hope for the best. The brave people of Malaysia have chosen, so the Governments (federal and state) should give them what they want! POWER TO THE BLOGS AND PEOPLE!

Btw, could be use Kelantan's humungous gas reserves to subsidise our fuel and gas?

Chief Shook

"THE SECRET"

Students to my FXOptions classes know I'm on fire. The trades have working with uncanny accuracy. Case in point was the 3 trades I suggested for this week on EUR-JPY & USD-JPY Hedged Trade, the AUD-USD and EUR-AUD Hedged Trade, and Buy Call on GBPUSD. So what's the secret? Simple........BUY in the DIRECTION of the TREND. The Trend is indeed a forex trader's best friend since forex pairs do tend to trend very well (which by the way, makes them excellent candidates for Options Trades too). Here are the principles behind the trades:
1. Short EUR-JPY and Buy USD-JPY - This recommendation was made on Sunday, March 2nd. I was merely betting on the continuation of the downtrend on the DOW (it had fallen by 300+ points the preceding Friday). Since I was not sure of the market direction, I used USD-JPY as a hedge in case the market turned. The market did continue down, the trade was profitable by Monday night.
2. Buy AUD-USD and Buy EUR-AUD. The RBA was due to give its interest rate decision on Tuesday, March 4th, so trading the Aussie naked was a definite No-No. There was also a possibility that the overextended Aussie would retract after the Interest rate announcement (or it could fly, of course, like the venerable Euro). If the Aussie retraced, our gains on the EUR-AUD position would compensate for the loss on the Aussie. The RBA raised rates by 25bp to 7.25%, and the Aussie retreated, putting this position into profit by Tuesday morning.
3. Buy GBPUSD on a breakout. The 3rd trade required a bit of technical analysis. I had just completed teaching a module on Technical Analysis, so it would be fun to apply it to real trading. Enter the Triangle. I said to Buy GBPUSD on a break of a consolidation triangle. If GBP broke down, we would do nothing. The GBPUSD first broke down, and then coolly blasted over the triangle (the triangle top was 1.9917 on Thursday, March 6th) after the Interest Rate announcement, giving traders at least 100 pips!

3 Profitable Trades. Shows that it pays to know the fundamentals! This is why we need to read every day to understand the "pulse" of the market. Wanna learn more? Join the next FXOptions class!

Chief Shook