Another lesson in money management from the euro

John C Burford illustrates the importance of stop-losses in this 'wash' trade from the currency markets.

When I last left the euro on Thursday 19 May, it was making a relief rally off the 18 May low at 1.4050 to the US dollar.

Recall that on the long-term chart, this level represents very strong support and resistance. It is the 'line in the sand' at this stage of the market.

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A sharp break of this level would almost certainly seal the fate for EUR/USD for months to come and bewilder the huge army of dollar bears who believe the US dollar is a total basket case an even bigger one than the euro, which is bad enough.

As you know, I love proving the herd wrong it must be due to my competitive streak. But to profit from this approach, your timing must be immaculate.

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And here is a great example of using the Fibonacci tool on your spreadbetting platform to pinpoint precise entries against the trend.

Hunting for turning points

Here is the chart as of today, 27 May:

SB00093-01

(Click on the chart for a larger version)

From the 4 May high at 1.4940, the market plunged in five Elliott waves to the 23 May low at just under 1.40, where it met good support (remember the 1.4050 support?).

The final wave down from May 20 put in the fifth wave and on a positive momentum divergence, albeit a small one (marked with green arrows).

And when five waves are complete, what do we get? Generally, a three-wave corrective pattern, and that is what I was waiting for.

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My plan was to short EUR/USD when I could see three clear waves up off the 23 May low, and when the market reached a Fibonacci retracement.

Not every trade can be a winner

In fact, this trade was not a winner. Sadly, not all of mine are. However, it was also not a loser! As such, I consider it a terrific trade. Here is what happened:

Going back to the chart above, I have drawn in the Fibonacci levels from the May 4 high to the 23 May low the big wave down. We will refer to them a bit later.

Going back to the week of 23 May, the relief rally was progressing up steadily, and on the morning of 26 May, it thrust into a new high for the move.

A classic A-B-C pattern was in the making!

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Now I applied my Fibonacci tool to the 20/23 May final wave down from 1.4345 to 1.3970 and what do I see?

SB00093-02

(Click on the chart for a larger version)

I see the Fibonacci 50% level was fast approaching. OK, we have a budding A-B-C, an important Fibonacci level, and high momentum. Time to put out a short.

SB00093-03

(Click on the chart for a larger version)

I entered a limit order to sell right at the 1.4200 level, which was hit in the early afternoon of May 26.

Since I believed that if the 50% level was not the final reversing place, and that it would probably carry on to the 1.4250 area at least, I placed a close stop at 1.4230, allowing a 30-pip risk. This was well within my 3% rule.

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As it happened, the market did turn around at 1.4200 and moved down towards the 1.4050 line in the sand, as you can see on the chart above.

So far, so good.

The importance of good stop-loss management

But that is when I took no chances and moved my protective stop down to 1.4200 using my break-even rule. I had a good margin of at least 100 pips to work with.

And a very good thing I did, as the market zoomed back up through my stop in the early hours of this morning.

That meant that this trade was a 'wash' neither a profit nor a loss. And that was a terrific trade. I hope you agree.

But what now?

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The market has now made it to the next Fibonacci level:

SB00093-04

(Click on the chart for a larger version)

Is this a suitable place to try another short?

I'll keep you in suspense and let you know my decision in my next post.

NB: Don't miss my next trading insight. To receive all my spread betting blog posts by email, as soon as I've written them, just sign up here .

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