Hedging the FOREX Market: Changing the Paradigm

It took me a while to get it too.

Hedging the FX market requires a completely different mindset.

I have seen no less than four experienced traders get hammered using the same system that I use because they simply get too involved and cannot shake the fear/greed mentality that comes with directional trading and is why most traders fail when trying to guess the market.

Traders often try to beat the market.

When you hedge using the system I use all you want to do is STAY in the market!

When a directional trader sees an equity drop of 2000 on a 10,000 account they are programmed to see this as a 'drawdown'.

But, a real drawdown in directional trading would leave you with only 8,000 to work with to build your equity back up.

But, with hedging as I do it, if your equity drops to even $5,000 you are still earning interest and buying low and selling high as if you were in the market at the $10,000 level because indeed you are. You still have roughly the same number of lots and are earning the same amount of interest daily.

What this does is make it easy to go up but hard to go down. It works kind of like a ratchet effect. You know, kind of like the price of gasoline. :)

It is like the wheels are greased for increase while resisting decrease. If the equity drops there is the mediating of daily interest and regular buy low sell high profits.

So, as long as you keep your margin low you have a very good chance of riding through times when the correlations are off.

In hedging the only thing we really want to see for long term success is a relatively high correlation or negative correlation between the pairs we trade. If the EURUSD goes up we want to see the USDCHF going down, and so on.

I was asked the other day what would happen if the USD tanks even further.

With the system I use it is not an issue as long as the correlations stick. If the USD tanks then the EURUSD should go up and the USDCHF should go down. We will buy low on the USDCHF and sell high on the EURUSD. All the while we will be earning substantial daily interest at 400:1 with triple interest on Wednesdays because of the weekend downtime in the market.

The key to this system is to keep the margin low and largely stay away from the USDJPY. The correlations are just not consistent enough and I would leave this for the traders who are intimate with the Yen.

Too often people are looking for a get rich solution to their financial problems and fail to have a plan that will really work in the long run. Most people are so occupied with just tried to keep up an unsustainable lifestyle and just ahead of the bills each month. In fact, the majority of households would be in financial crisis if there were two months, or even one month, without income. So, it is really had to get people to think ahead and see the big picture.

Using a good hedging system we can have very good years and not so good years. But, with the power of compounding and proper money management wonderful things are possible.

To learn more about compounding see the link on the left of this blog.

Anything is possible in terms of gains. Improper use of the system can also result in losses.

See disclaimer.