Take a lesson from surfers to read the financial markets

In Part 1 of this series we looked at the analogy of how foreign currency markets like the dollar/rand can be related to the ocean, and how there are cycles and moods in each, and different degrees of forces or trends that drive their apparent ever-changing motion. 

To quickly recap the last post, a forex market has a primary trend (like the tides of the ocean), and you need to know what this trend is, and how far that trend is likely to continue, so you can use this to your advantage.
Fighting the tide is a recipe for disaster!

The interesting thing about long-term trends and tides of the ocean is that these also have different moods and intensities. 

Sometimes you have strong market trends (like during spring tide), and at other times lacklustre trends (like during neap tide). Knowing when each of these is in play and the characteristics of each is important to understanding and surviving the ocean – and the markets.

But that is not the whole picture.

While knowing the rand's long-term trend is essential, it is not sufficient in order to be successful in managing your forex exposures or trading.

The fact is – you can know the long term trend, and STILL lose money all along the way!

So, what else is needed?

In any such market as the rand, there is not only a primary trend (likened to the tide), but there is a secondary (or intermediary) trend, which can be likened to the waves of the ocean.

As shown in the chart below of the dollar/rand from 2011 to 2017, these secondary trends (shown in black) are superimposed on the primary trend of a market (shown in red).

Click to see full size...
Waves are affected by the tides, but also have their own moods, cycles and rhythm due to secondary natural forces. 

We know this from observation –

Depending on what weather conditions and systems have prevailed in the region over the previous hours and days, the sea can have the most perfect waves at times….

…while at other times it can be choppy, possibly to the point of being rough and dangerous!

And then, it can be almost waveless a couple of days later.

Surfers have learnt over time to read these signs – of what weather conditions make up good surfable waves, and in more recent years forecasting this has become more accurate due to using sophisticated weather pattern-analysing technologies (like windguru.com and magicseaweed.com) instead of just gut feel.

An interesting and well-accepted fact too is that surfers will experience the best riding waves during a rising tide – when the intermediate trend is in the same direction as the underlying major trend. 

These are the waves that will give you the best, longest rides, when both forces are working in your favour, and you can harness their power, and be carried effortlessly for the ride until all its power has been lost close to shore… 

…and then head out on the back current to wait for the next wave in.

And with the rand and other currency markets it is no different. 

Depending on the prevailing sentiment at any time, the markets can be trending nicely, or be very choppy, or even flat.

And to succeed, you need to understand what mood the market is in, and what is most likely to happen next. 

And just like weather-based forecasting systems, having a scientific-based system to forecast the rand and other financial markets – utilising the laws that govern (human) nature in financial markets and past market patterns to forecast future patterns – can be extremely useful in giving you a heads up as to whether a market is likely to stay flat, get choppy or start trending strongly.

Or reverse trend.

And understanding how this relates to the underlying trend is also critical to how successful your ride is likely to be.

As a trader (just like the surfer), your best ride will always be to catch strong trending waves in the same direction as the underlying trend, and ride them out until they have lost power. And then wait patiently for the next one. 

And as an importer or exporter:

  • If the underlying trend is in your favour, your strategy would be the same as the trader, using it to your advantage within the period you have to exchange:
    • If the intermediate trend is IN your favour, use this to your advantage by waiting until the present trend is starting to run out of steam before exchanging.
    • If the intermediate trend is NOT in your favour, depending on how far the intermediate trend is likely to extend and the window period you have to exchange, you could wait for the trend to reverse and move back in the direction of the longer term-trend (of course with some price level to protect you in the event of an adverse move). 
  • If the underlying trend is against you, don’t fight it! Look at the intermediate trend.
    • If the intermediate trend is IN your favour, use this to your advantage by waiting before exchanging, but expect it to be a lacklustre ride that is likely to run out of steam sooner rather than later. And then get out before you are caught in the strong backwash and lose all you gained.
    • If the intermediate trend is NOT in your favour (or turning against you), look to exchange as soon as possible, before you lose any more.

I trust this has given you some valuable lessons of how we can learn from nature, and those around us who have learnt to harness its power – and enjoyed the ride as a result. Time and time again.

And if you have Rand forex exposures, you know how it is – you miss out on a good run, or are burnt by a sudden reversal, because you lacked the knowledge of where the market was, or where it was likely to go … and were likely driven by your subjective emotions.

This is why you need some objective analysis to help you understand the underlying trends and patterns in different timeframes and how these are in relation to one another at any point in time.

Get more info and insight into the rand here.

James Paynter is Head Analyst at Dynamic Outcomes, a specialist forex solutions company that provides forecasts, tools and solutions to clients with rand foreign currency exposures, to reduce and manage their risk and optimize the timing of their transactions.