Whilst the world of forex is very broad and includes the vast majority of nationally accepted currencies, the overwhelming majority of forex trades concern just five of them.
The reasons for this are matters of liquidity and volatility. The US Dollar, Euro, Great British Pound, Japanese Yen and Swiss Franc all have healthy buying and selling markets and tend to have a relatively predictable and slow-moving rate of volatility.
This is why most forex funding plans that will be accepted primarily consist of currency pairs with these five currencies, as they are the ones that are least likely to go wrong, at least when the economies of the 24 countries (four plus the 20 countries that use the Euro as the official currency) are not in exceptional times.
However, as was seen with Black Wednesday and the famous billion-pound short on the pound by George Soros that built his reputation as one of the biggest financial speculators in the world, unlikely times bring out some truly strange economic circumstances.
One of these is how a forex trader made $300m in a single day by taking advantage of a financial correction caused by another market correction
The story starts with one of the biggest single-day stock market crashes in history.
On 19th October 1987, 22 per cent of the Dow Jones’ value was wiped out in a single day in one of the biggest and most emphatic ends to a bull market in the history of stock trading.
Whilst the stock market is largely immaterial to forex, the currency market can cause and be affected by stock market ripples, or indeed tsunamis, such as Black Monday 1987.
After five years of intense activity and deregulation had distracted many investors away from the very concept of a fiscal correction, which naturally meant that when the US dollar was hit with an unexpectedly high trade deficit alongside rising interest rates, a ripple quickly became a cascade.
It would eventually lead to the installation of stock market “circuit breakers” and other measures to stop the types of panic selling that led to such a rapid loss of value, but for forex traders, the most interesting and long-term effect is what it did to the dollar.
After attempts to prop up its value had disastrous side effects, the Reagan Administration effectively allowed the dollar to plummet along with interest rates in a bid to restore liquidity.
This meant that during this wild period, a lot of forex money moved out of the dollar, seen as the central currency for many stock markets, and into other currency pairs that either did not involve or effectively shorted the dollar.
However, there were a few exceptions who decided to wait for the elastic to snap back and took some of the most ridiculously risky trades ever attempted in perhaps the only time in financial history where such a scheme would work.
Shorting A Nation
A former philosophy major who dropped out of a PhD in Oriental Studies to pursue finance, Andy Krieger is not a typical forex trader and highlights how you can succeed with an unconventional approach.
He got his start on the trading floor of the Salomon Brothers, the famously cut-throat investment company that at various points hired the man who created mortgage-backed securities, Lewis Ranieri, former New York Mayor Michael Bloomberg and Michael Lewis, author of Moneyball and The Big Short.
Even by the standards of the time it was vicious and explicitly rewarded successful risky trades with gigantic bonuses, later inspiring Mr Lewis to write the book Liar’s Poker about his experiences during that time.
They also had a rather unique approach to hiring; they did not typically take people with experience but instead moulded high-flying financial adrenaline junkies in their own image, and given the story of one of the most famous and successful single-day trades in history, that may become obvious.
By 1986, he had moved to Bankers Trust, a historic bank that had a reputation for innovation, one that served them until 1994, when their complex derivative trading strategies were the subject of two gigantic lawsuits due to failing to inform two major clients of the risks involved in a way they could understand.
In 1987, in the wake of volatile market conditions, Mr Krieger’s high-rolling strategy in highly volatile financial environments was put to the test as he executed a trading strategy that in any other situation would have been seen as impossibly reckless even for the era.
Given that money was moving away from the dollar and into other currencies, he noticed that the New Zealand Dollar was rallying harder than most against the dollar, which suggested that the kiwi could become overvalued.
The kiwi had been floating on the forex market for a mere two years but had been rallying particularly strongly, before and during the US dollar crisis.
Sensing that the pendulum was going to swing potentially hard and buoyed by a $700m trading limit given to him by Bankers Trust, the 32-year-old trader decided to force the issue by executing a laughably audacious, highly leveraged short position.
Given that most forex leverage trades are undertaken with roughly 5:1 or 10:1 leverage at most, Mr Krieger’s 400:1 position on the New Zealand dollar was seen as madness, a colossal spin of the roulette wheel that could go horribly wrong.
However, one does not commit to a bet like that without utter certainty and conviction, and Mr Krieger was so committed to this that it is alleged that his short positions totalled more than the circulating supply of the kiwi in New Zealand.
Against this tremendous pressure, this bet became a self-fulfilling prophecy, and the New Zealand Reserve Bank quickly noticed the large positions and saw it as an outright attack on the currency itself.
Mr Krieger alleged that the Minister of Finance of New Zealand (presumably Roger Douglas, father of the neoliberal economic plan dubbed “Rogernomics”) called Bankers Trust and in a foul-mouthed rant told Mr Krieger’s bosses to get off of their currency.
Mr Krieger allegedly and somewhat infamously responded that the problem was not that the trades were too big, but that New Zealand was too small to handle their custom.
This led to the Kiwi losing between three and ten per cent of its value, and around five per cent was when Mr Krieger exited the trade, netting a $300m profit in the process, which makes it one of the greatest single trades in forex history, only beaten by some of the blockbuster Quantum Bank trades.
Interestingly enough, by 1988 he would abruptly leave Bankers Trust to join George Soros’ investment group, having allegedly found a reported $3m bonus an insult given the amounts he made the company during his tenure.
Bankers Trust fared terribly after Mr Krieger left; having made their money and reputation on risky and complex trading strategies, they would later be accused of fraud and corruption in a number of cases against them by major corporate clients.
What Can We Learn?
A lot of the circumstances that made this blockbuster trader possible do not exist in the modern forex market, but that does not mean there are no lessons to learn and core principles that can be applied to your analysis and trading strategies.
His strategy was complex and multipartite, and his analysis before he pulled the trigger was one that he boiled down into five essential factors:
- Look at the wider holistic patterns and issues for both sides of the currency pair, from the central bank’s monetary policy, political situation, demographics and rate of growth.
- Next, explore the other parallel markets such as bond markets, interest rates and the stock market to see if any of these will have a domino effect on the currency.
- Look for particular market expectations. For example, is there a certain election or referendum result the market is factoring into its strategy? Are there any headline data releases to watch out for?
- Look for the market reaction, as much like a tell in poker, it will reveal where the market is positioned.
- After all of this is the time to look into the technical factors that can help to maximise trade.
As would be expected for a former philosopher, Mr Krieger’s approach is far more top-down and high-level than would be expected in someone with a more economic, technical background, looking more at the interconnected factors that make money move.
As well as this, he emphasised the importance of analysing not only what happens with a currency but also why, as armed with that context, your trades will invariably improve and you can afford to take more calculated risks, albeit not to the level of a 400:1 leveraged trade.
Ultimately, successful trading is about understanding the difference between value and price, something that can often be missed by people with a fundamental misunderstanding of how money works in the foreign exchange market compared to how it works when buying goods.