Trading Catastrophe: A First-Timer's Big Loss

Sooner or later, it happens to everyone who trades: the big loss. Forex trader Rob Booker shares his experience with The Big One in this humorous and heart-felt excerpt from his book, Adventures of a Currency Trader.

My wife was excited for me, but she was anxious that I start making money. It was hard to argue with her about that. If I didn't make money, then we were going to have to dip farther and farther into savings. We did have the money from selling off all our cool stuff and the savings/severance, which meant we had $30,000. I had put $5,000 of that into my trading account. Gini didn't mind at all, especially considering that I was planning a trade with the supervision of a bank trader and it seemed more reliable this time.

It shouldn't have seemed like trading was urgently necessary, but when she spoke, it was impossible to remain patient. I had what might be the chance of a lifetime for a currency trader - to follow an order and pick up on the momentum created by a major bank.

"The longer you take to start trading, the less in savings we are going to have," she said that evening. "And if you start making more good trades, we can keep more in savings, and maybe even have more to use for trading down the road."

"That is true." Although her words conflicted with what I had promised Harvey, she was my wife first. I wasn't married to Harvey. I didn't have to put a roof over Harvey's head. I didn't have to buy him food or school supplies. So I decided that I would take a look at the charts.

The first chart I opened was the four-hour chart for the EUR/USD (see Figure 14.1). Harvey told me that I could trade it if I could justify it, and that's what I intended to do. To miss out on a trade that he and Hank Doorecker had planned-it was too much to resist. Perhaps his

admonition not to trade had been a test: to see if I could adequately justify a trade on the EUR/USD. Just to see if I was really listening.

I saw nothing. There wasn't anything here I could work with. Zero. What in the world were they looking at over at U.S. National Bank? What was so inviting about selling the Euro? I could see that it had tanked on Friday after the jobs report. I could see that it had now risen back up a bit. Big fat hairy deal! That didn't give me any trade ideas. I couldn't justify selling it now or at 1.2200, for that matter. What was going to happen at 1.2200? Harvey had said that bank traders didn't necessarily have access to better information. Well, apparently they did!

That's when the phone rang. It was Craig Taylor.

"Harry, I hear you've met with Harvey. That's the word on the street."

It was good to hear his voice. Not only did I need to thank him for setting me up with Harvey, but I needed help on this trade.

I told him how much I had learned already and how much I appreciated the introduction. Then I told him I was stuck. "I can't figure out where they go with this trade idea," I admitted. "Harvey told me that I could trade it if I could justify it, and I sure do want to trade it."

"What are you looking at?" he asked.

"The four-hour chart," I replied. "I have been explicitly commanded not to look at short-term charts."

"That's good. You're working from one of Harvey's favorite time frames. So you've made a good start. What else do you have on the chart?"

"Nothing."

"No indicators at all? No trendlines?"

I admitted that although I had read about all those things, I'd not found the time to implement them. "Well, Harry," Craig began. "You first of all shouldn't start with the idea of trying to figure out what Harvey is thinking. That's not going to work. If you are going to justify this trade, you are going to have to come up with some type of analysis of your own."

"I have no idea where to start. I know what a trendline is, but I'm not sure what to do with them."

"I gotta run, Harry. You can figure this out. But doing some testing and experimenting on your own is going to make a huge difference."

Forcing myself to do some lines

I sat in front of my computer screen for at least 20 minutes before making a move. Determined to not give in, I prepared myself to sit there until I at least drew some lines or plotted some indicators on my chart. I finally decided that I would at least draw a line at the entry price of 1.2200. I would start there. That was my goal: the number that I wanted to justify. After I drew the line, my chart looked like the one in Figure 14.2.

At least I had a starting point now. I could see where I was planning to buy. Was it wrong of me to be back doing this trade? Although I was doing my own research here, I couldn't take credit for the original idea. It occurred

to me then that Harvey wanted me not only to explain why the trade was reasonable, but also to start developing my own ideas. Harvey had other traders to work with. He wouldn't be available forever to keep feeding me trading ideas that I would go home and justify. Part of what I wanted to do that night was to figure out how to plan these trades on my own.

The books I'd read had a lot to say about indicators-moving averages, oscillators, and so forth. It seemed rational that I would jump into some of those. So I added a 200-period moving average as a dotted line. The moving average was just what it sounded like: an average of the price over a certain period of time-in this case 200 periods of four hours each. Once plotted, I saw that it hovered above the current price and seemed to have stopped the currency pair from rising earlier in the month of April. Perhaps the average would stop it again and that was a good justification for the trade. But how could I say that price was going to hit the 200 moving average again? And that it would fall back? That was stretching things a bit.

The books also talked about oscillators. These were indicators that supposedly showed when a currency pair would be overbought (and ready for a move down) or oversold (and ready for a move back upward). I flipped open to a page in one of the books that talked about the stochastic. That seemed popular enough! So I added that, too, with the standard settings of 14, 3, 3. This time I was getting closer. The stochastic was rising and nearing the top. Could it be as simple as that? That I could sell the pair every time the oscillator reached the top? And buy every time it reached the bottom? Perhaps. But there was no way that Harvey was basing his entire trading system on something that simple.

The MACD, or moving average convergence-divergence, was an indicator of momentum. It was basically a way to follow a trend, built from moving averages. Perhaps that would provide an extra clue. One of the books talked about adding a second or third indicator to confirm what I was seeing on the first. That seemed reasonable-getting some backup. Actually, it sounded more than reasonable. It was perfectly clear to me that any successful trader wasn't going to base his entire strategy off one indicator. No wonder that I had felt uncomfortable with the stochastic alone. Or with just the moving average. So I added the MACD, with the standard settings of 26, 12, and 9. I didn't really know what those meant, but who cared? I was trying to justify a trade, not write a book report on Gerald Appel, the creator of the indicator.

It told me nothing at all. I could hardly understand what it meant in the first place. Now I had a hill-and-valley shaped thingy in the middle of the MACD and some lines crossing above and below. The lines were underneath and the hilly shape was sort of flat. Ho-hum. This was worthless. I'd really rather see the indicator with the hills going down or the lines going down as soon as the EUR/USD price hit 1.2200. Maybe Harvey and Hank Doorecker had a computer program that could predict that the MACD would be topping out or heading for a move downward once it got to their special entry price.

What if I could also find that at the same time the price was hitting the 200 moving average and that the Stochastic Oscillator (a measure of when a currency pair had moved too far in either direction) was overbought? Now I was getting someplace. Still not sure that I had enough to justify the trade, I decided that I would add some other indicators.

The next one that I added was a Fibonacci retracement. I drew a line from the highest recent point the pair had reached, all the way to the lowest point it had reached. This then produced a series of numbers in between the high and the low, where, according to one of the books in front of me, price was expected to encounter resistance, or selling pressure. The 50 percent level of the retracement that I drew was right at 1.2182. Now we were onto something! Perhaps Harvey was watching for price to rise up to this level, where it was more likely to fail and go no further. I liked this. If I could show that the Stochastic was overbought, that the price was nearly hitting the Fibonacci retracement level-I might be able to justify taking the trade.

I had plotted a lot of stuff on my charts at that point. Well, that's an understatement. My chart looked as if a book on technical analysis had exploded all over the place (see Figure 14.3).

By this time, I had been working for four hours and my family was asleep. I hadn't even heard my wife put the kids to bed. This process had consumed me and I was really getting into it. Another candle was forming

but it wasn't going anywhere. Price was stalling at the 1.2100 mark and not going anywhere. I was exhausted. I hoped that I didn't have to show Harvey my chart before I took the trade, because I intended to sell the EUR/USD just like he was going to do, and I had my justification.

My wife stumbled in a few moments later and, rubbing her eyes, looked at my chart.

"That looks complicated," she remarked.

"It does," I admitted. "I'm not sure I know what all that means. But I think it is telling me that the Euro is going to be a good sell trade when it gets to 1.2200."

"That's the trade that your friend Harvey is going to take?"

"Yes. That's right."

"Why don't you take it now?" she asked.

She had just risen from bed so I could understand why she was confused. "The price has to rise another 100 points before I can sell it," I told her. "We're going to sell it at 1.2200."

"If you know it's going to 1.2200," she replied, "why don't you buy it now?"

Then she walked back into the bedroom. I wasn't sure if she had been sleepwalking or if she really meant what she said. But it made sense! She was right! If Harvey was so sure that the pair was going up and then was going to be a good sell, then why not make some money on the way up, and then on the way down again? Wow! That was brilliant.

I looked at the chart more carefully. Price seemed to be drawn like a magnet to the 200 moving average-it was surely on its way up there all over again. And the stochastic was showing that it was trending upward and not overbought yet. It had more room to go! And the MACD, like I had seen earlier, was rising, with the hill on the top side forming just now. And price was moving up toward that 50 percent retracement level.

For the next 30 minutes, I added a few more indicators that seemed to be all telling me the same thing-it was rising upward and I was going to be able to buy it on the way up. So I opened my trading platform. I had $5,500. If I traded long now, I stood to make 100 pips. If I traded $1,000,000 in currency, that would be $100 per pip, for a gain of $10,000. That would be a huge gain and bring back way more than I needed to pay for a month of bills. It would redeem just about everything I had done before I started making stupid decisions. I clicked on my trading platform, entered and double-checked the numbers, and took the buy trade.

At 12:35 A.M., I bought at 1.2098. It cost me $2,500 in margin to make the trade.

I did not place a stop loss or a take profit order. I just pulled myself up from the computer table and stumbled into the bedroom and fell asleep. I didn't even get out of my clothes.

THE NEXT MORNING: FLAMES FOR BREAKFAST

The next morning as I was gulping down a glass of carrot juice, I realized that I could have been a tad bit zealous about trading the Euro. I can remember a splash of carrot juice running down the front of my Wakeman, Butterman, and Bailey "20th Anniversary" T-shirt. I can also recall my son tugging on my shirt sleeve, asking when he would could play on the "tomputer" that day. I also can clearly hear my wife's voice asking me if I took her advice and took the trade upward. And I will never forget what the chart looked like when I walked calmly to the computer, started up the charting program, selected the EUR/USD, and then choked. It looked like Figure 14.4).

Oh, crap.

This wasn't going to look good. Not to Harvey. I suddenly realized that no matter how much research I'd done about selling the Euro, I'd bought it on pure speculation. Once again, I had fallen into the trap of believing I could game the system. Thinking that I knew more than I really did, I had managed to get a second margin call. I was down to $2,500 in my account. I had lost more than half the account!

Even worse, I realized that I had made the right decision. Looking at the chart (Figure 14.5), I found that I had actually made a trade that eventually would have been profitable-if I had not traded such a large lot size, the trade would still be open at 8:00 A.M., with some smooth, tasty profit

waiting for me. Sure it had fallen right after I'd bought it. But then it just climbed right back up!

No way! That was not fair! I had certainly picked the right direction. I had made a good choice. But my timing was off. My trade size was too big. My amateurish analysis had created a spark that led to a full trading account conflagration. With half my trading account in ashes, what was I going to tell my wife? I now understood that I'd made the right decision and I could engage in some redemptive revenge trading. If I could get back the money I'd lost, I wouldn't have to say anything about it at all. So what if I'd lost half the account so far! I could gain it back by just understanding my error and correcting it.

I'd read about this in the trading books. When a trader makes a bad decision, he should admit it readily and not stubbornly grip incorrect assumptions about the market. Better to gulp down some pride, reverse the trade, make back the losses and move onward.

I clicked on the order button to buy $1,000,000 worth of currency- just as I had done the night before. Figure 14.6 shows the response.

Insufficient funds! I didn't even have enough money to execute a standard lot trade!

I needed $2,500 in order to do a standard lot, and that's all I had in my account-which would leave nothing for available margin. That meant I had to reduce the size of my trade. Which I did. I traded a half standard lot, or $500,000 worth of currency, for $50 per pip. I bought the EUR/USD at a price of 1.2119 at 8:05 A.M. on April 7, 2004. It cost me $1,250 in margin to make the trade.

This wasn't far from where I'd bought before, but at least now I knew it was going up. At least I understood what I'd done wrong and could make it right. I felt a sense of righteous retribution against the market for having treated me so poorly. Everything I did in these few moments was done with pure emotion.

I didn't move. I couldn't hear my wife or kids or phone or anything in the background. It was me against the market and nothing was going to get in the way.

At 8:10 the pair was trading 11 pips lower, at 1.2104, and I had lost $550.

At 8:15 the pair was trading 17 pips lower, at 1.2098, and I had lost $850.

These amounts were staggering to watch. How could I watch this much money go by? If I'd watched this happen the night before, I would have closed the trade early and not withstood the damage. Should I do that now? I asked myself. Should I close it? If I closed it and it simply went in my direction, then what? I'd lose more money and be even farther in the hole. The only solution was to hold on tight.

Between 8:20 and 8:40, I got some delicious deliverance from the savage fall-the pair traded up to 1.2107 and was closing the gap on my loss. I knew I'd made the right decision and took a break to use the bathroom. My family was gone, probably to the park or something. It didn't matter. I'd have good news for my wife when she returned with the kids.

When I returned from the bathroom, I'd been margin-called.

I felt and heard a thumping sound in my head.

Whump!

I rubbed my forehead. A beastly headache was forming in the back of my head, which was the section of my brain probably used for storing numbers, such as the amount of money I just lost.

Whump!

Now what? I had lost $1,250. I only had another $1,250 left. This was all I had left from what had been a $5,500 account just a few hours earlier. Why hadn't I stopped? Why couldn't I have at least taken some of that money out when I had the chance?

My wife's iPod sat on the desk in front of me. Cradled in its connector thingy to the computer, its silky white face mocked me. The navigation wheel looked like a giant mouth, laughing openly at my predicament.

There was nothing much left to lose. If I lost it all now it didn't matter. What was $1,250 at this point? What did it really mean? Not much anymore. If I lost it, I couldn't feel much worse than I felt right now. If I gained back even $125, I would have doubled my account from this point and at least would have the satisfaction of not having given up. Clearly, the EUR/USD had never intended on going all the way up to 1.2200. Switching to the four-hour chart, I noticed that the stochastic had never reached the overbought area but was starting to turn downward.

It was never going to get to Harvey's number of 1.2200! Instead of rising up that high, it became exhausted near to his number and would turn downward for at least 50 to 100 pips. So I sold. After waiting for one more five-minute candle to close lower and prove that I was making the right decision, I sold at 1.2082 (see Figure 14.7). I could only afford to sell $200,000 worth of currency, for $20 per pip, and it cost me $500 in margin.

It only fell 3 pips lower. It never even covered the spread. Not for one second was it profitable. It only took about 37 pips before I got a margin call.

Whump!

Whump!

Whump!

I stared at the $500 in my "available equity" column until 10:15 A.M., when my wife returned with the kids.

She banged open the door, called out to tell me she was home, and then cheerily yelled over to me: "So, Harry, how did that trade work out last night?"

Then I threw up.

Rob Booker is a foreign currency trader and a trainer of traders. His Web site, www.robbooker.com, and blog, www.piptopia.com, are two of the most popular destinations on the Web for traders, and both provide educational and inspirational materials on trading. Booker has the reputation of being one of the best trainers of traders in the foreign exchange industry. Hundreds of people he has trained now trade for a living. Booker's growing popularity is a result of both his success as a trainer and his ability to impart his knowledge in an appealing manner through stories and anecdotes.

Excerpted with permission of the publisher John Wiley & Sons, Inc. from Adventures of a Currency Trader. Copyright (c) 2007 by Rob Booker. This book is available at all bookstores, online booksellers and from the Wiley web site at www.wiley.com, or call 1-800-225-5945.