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Thursday morning as we were nursing our EURUSD short trade after it hit our T1 target, K sat transfixed as prices on the pair kept falling pushing the trade further into profit for us. The key event risk – the US ISM services report - which we had been anticipating to be dollar bullish had not yet occurred, but the market seemed to have sensed that the numbers would be good and kept selling the EURUSD even before the news printed.

“ I know that this is not the right thing to do, “ K announced, finally pulling away from the screen, “ but I am moving the stop from breakeven to T1.” She was afraid that by tightening the stop from its current position at 1.3613 to the take profit level of our 1^st target as 1.3593 we would be vulnerable to a sudden spike in price that would take us out with small profits only to see the pair collapse once the news came out.

“There is no ‘right thing’ in this case, “ I said to her, “only the ‘proper thing’. Go ahead.” K nodded in agreement and sent out the alert to move the stops. As it turned out, prices did not retrace, the news printed our way and we closed the trade within a few pips of our T2 target for a nice tidy profit of 74 points. But even if the events occurred just as K had feared and we would have been stopped out with only a 40 point gain on the trade, her actions would have been correct.

Why? Because all profits are illusory until they are actually realized. During the dot com boom when I as a headhunter I was negotiating seven figure compensation deals for computer software salesmen at such high flying high tech companies as Vignette, I2 and Autonomy, I once calculated that the total value of the stock holdings of these deals exceeded $35 million. Yet how many of my former clients became millionaires as result of the boom? Only one. Only one was disciplined enough to sell out his position the moment it became vested. The rest held out, wanting more and more money only to ultimately end up with nothing.

Last year, I remember sitting at swanky street café in Delray Beach Florida across from a gentleman who regaled me with tales of his prowess in the housing market. As the afternoon sun warmed our backs and we sipped our overprices iced lattes, the man calmly explained to me how he was able to leverage gains from one house into a portfolio of 11 residential properties on which he was holding mortgages. I cautioned him that his net worth was dangerously tied up in a parabolic asset and that he was vulnerable to a sell off. He assured me that he was cashflow positive on all his houses and had nothing to worry about. We’ve lost touch, but I wonder how he is doing now, given the fact that all of those cheap ARM loans are about to reset on him and that those properties are now worth 20% less.

Mark Cook, one of the traders from Stock Market Wizards used to say that buying option contracts was like holding ice cubes in you hand. The longer you held them, the faster they melted. I always thought that was a great analogy for trading. Investors may “buy and hold” successfully (though those who bought Nasdaq 5000 or Nikkei 38,000 would vehemently disagree with that statement) but traders need to always protect themselves from risk. As traders we never ever, know what is in front of us. We only know what is behind us. Therefore minimizing risk is the only way we can stay alive in the game. Profits are always a function of luck, but losses are a matter of skill.

At the same time we must never forget that reward only comes if you are willing to take the risk. The short EURCHF trade that we put on Thursday night is a perfect illustration of this point. We made the trade after Swiss CPI data printed much hotter than expected reaching 15 year highs. The news spurred speculation that the SNB may raise rates 50bp rather 25bp in June. Therefore, EURCHF - which up to that point had been setting record highs on a daily basis as carry traders continued to mercilessly sell the Swissie - was due for a correction. Unfortunately after inching a few pips our way the trade stalled and bounced up and own for 24 hours as the market tried to assess the probability of the SNB hikes. Much as it pained us to watch the trade creep towards our stop level, we held tight. The fundamental factors for our trade did not change and until and unless the technical stop level was broken, there was no reason to abandon the trade. By Friday afternoon our patience was rewarded and the trade moved down to our T1 level generating 20 points of profit. Yet just as in the EURUSD example, even if the trade went against us and stopped us out, the decision to stay in was proper. As we wrote last week, the most important aspect of trading is to always know the reason for getting into the trade and the reason for getting out.

We’ve had a remarkable run over the past two weeks hitting 8 out of 10 winners while banking 248 points of profit. Yet we are not foolish or arrogant enough to claim some secret of success. We’ve simply stayed disciplined and tried to practice what we preach. We’ll continue to work very hard to generate high quality trading ideas for you and hope that you will benefit from our experiment in “reality based trading”.

Now a quick review of the other trades this week.

Short EURUSD –12

This was the first trade of the week, based on the assumption that German Retail Sales would be good. We were badly mistaken and bailed instantly before the stops eventually got hit. This is a perfect example of NOT waiting for your stops if the reason for your trade failed. In this case quick reaction saved us from additional unnecessary losses.

Short USDJPY +20

Another trade that tortured us for 12 hours, but we hung in there since the fundamental reason for the trade – the weakness in the US equity market - remained true. We hit T1 and were then taken out at breakeven on rest. This was a good example of our T1/T2 strategy. The strategy gave us profits and then protected our capital when US stocks firmed once again and USDJPY rallied.

Short EURUSD+ 35

Long GBPUSD +32

Both of these trades were the result of good defensive trading. In the short euro case we accurately caught the continuation of the move from the NY session, but then by constantly lowering our stops and locking in profits were able to collect decent profits. Had we not done so, we would have been taken out of the trade with minimal gains as the euro reversed course.

In the case of the pound, we traded the UK PMI construction data, which proved to be higher than forecast, but as we wrote in the aftermath of the release, ”UK Data did print better expected but mortgage approvals were a the lowest level this year so we are going to take T2 here at market 1.9947 (+17) for +32 on the whole trade.” Cable collapsed soon thereafter and this trade showed why trading is and will always be a matter of art rather science requiring nuance and constant flexibility.

We hope you have a great week-end.

As always watch for an email from K on Monday regarding our outlook for next week.

Wishing you best,

B & K