Everything You Need To Know About Brexit (as a Forex trader)
There’s no way you missed it! Media talked about Brexit all around the world for months.
The vote result came out: the United Kingdom will leave the European Union. That was the desire expressed by 51.9% of the United Kingdom’s population.
As technical traders, we rarely care about the result a news provide or its outcome. What we are really concerned about is how people around the world are reacting to the news. And the best way to find out is to look at a bunch of chart.
I have seen many new Forex traders who were expecting to trade Brexit. Some others made their predictions and entered trades prior to the vote. That is not the way I go about things. There are opportunities created in the market by an event as huge as Brexit after the event itself.
What’s more? Events such as Brexit will happen again in the future. You might as well know how to deal with them. Through this article, I want to give a clear guide on what you can expect from those types of events. I also want to share my experience on Brexit and what to look for as of now.
Let’s talk about the market first!
There is a very simple concept that most traders do not seem to grasp when they first get into trading…
Most new traders (on any market) think that they can or should understand the market's moves. By understanding the market, they would then be able to predict with fairly good accuracy where it will go.
That’s a true misconception!
There are several ways to describe the market. But most importantly in our case, the market is uncertain.
Uncertain, which means that news will come out all the time, but you can’t predict what will happen & how people will react to them. Buyers could jump in because of excitement or sellers could sell out of panic. Who knows?
Unless you understand this concept, you will keep making predictions and trying to figure out the next move.
Once you acknowledge that markets are uncertain, however, you accept the fact that you do not know how people will react to a particular event.
The only thing you can rely on at this point is what you see.
The problems with trying to trade Brexit
A lot of people were talking about trading Brexit prior to the end of the vote count. That sounds exciting doesn’t it? After all you could catch some big moves, right?
Well, it’s not that great.
In fact, volatility was at its highest point and although trades might be easy to see in retrospect, you might not have been mentally ready to execute any trade.
“Wow, everyone’s buying! I want to get in!”
That was probably the thought a trader had, looking at the chart below:
Around 4pm EDT (8pm GMT), GBP/USD was in an uptrend. A sudden move up of 180 pips took place within a 15-minute period.
Why would you want to sell when everyone’s buying?
After a 70 pips consolidation, sellers took control of the market and the exchange rate went from 1.50 straight to 1.43…
Don’t forget, official results haven’t come out at that point yet…
In the next few hours, price moved in roughly 100 pips increment in a 15-minute candle (both up and down).
The average daily range of GBP/USD was around 140 pips in 2015, while a range of 1,800 pips was created in less than 6 hours prior to Brexit results’ announcement.
When the range is that large, the question becomes: how do you manage the risk?
The wide movements made it almost impossible to have a stop loss of less than 150 pips (and that wasn’t even a strategic stop loss placement). A strategic stop loss (placed at a structure zone) would have been easily 400 pips away from the entry price.
Moreover, it’s very difficult in situations like this to define a target price. After all, where is price likely to go? Can it really move 800 pips more to create a 2:1 Reward-To-Risk? Nobody knows and that’s the uncertainty!
“I don’t know what price will do… should I get in?”
Let’s say you were able to come up with a technical plan to trade Brexit (i.e. everyone’s selling so you decide to do the same).
Your mind would then come up with all sorts of thoughts…
“This is risky, you shouldn’t get in.”
“You never know what can happen. Maybe your stop loss won’t get triggered and you’ll end up with a big loss.”
But let's say you enter anyway.
Once in the trade, you’d start to think:
“You had a nice profit and lost it all to come back to break-even! Stupid!”
“Price moved 100 pips against you. Get out before it gets worst!”
“You knew you shouldn’t have taken that trade! Your stop loss is about to get hit.”
“Ah, it’s getting in the right direction. You better close the trade when it gets at break-even!”
“You made it man! Exit at break-even, ouf!”
And you know what happened, right? This is followed by the huge down move we talked about.
In situations like this, volatility is high, meaning that price is going to fluctuate very quickly. Unless you are prepared and highly distant from the outcome of the trade, you risk getting in your own way.
Opportunities to trade are based on what we see
As traders, we must learn to take a step back and come up with a plan. The process goes as follows:
– Alright, this is what happened from Brexit
– Now what?
To go further, it might be useful for you to think about what others think. You can’t be sure, of course, but you can usually use a bit of logic here. You'll be able to create a plan to move forward with that.
Alright, this is what happened from Brexit
GBP/USD’s exchange rate went down. It means that people think the Pound is worth less compared to the Dollar.
Based on this, we can assume that people are worried about putting their money in the Pound.
What do people do when they are worried?
They are usually going to place their money into assets they consider more secure such as Gold. In fact, the price of Gold gaped up significantly at market open on Friday:
Similarly, instead of placing their money into GBP, investors are likely to transfer their money to what is called Safe Currencies.
Those Safe Currencies are simply currencies that are considered more stable in times of uncertainty. The main ones are the Japanese Yen (JPY) and the Swiss Franc (CHF).
As a matter of fact, the Japanese Yen increased in value against the U.S. Dollar (USD decreases, JPY increases):
At this point however (right after the vote count announcement), we want to confirm whether the fear and uncertainty is confirmed. This is where technical analysis comes into play.
Let say that in the coming weeks, the GBP/USD exchange rate rallies back to 1.50. We could then assume that the reaction to Brexit was only a one-time reaction.
If however, we see that sellers jump into the market strongly after a retracement, we would have good evidence that the fear is real. That could be the beginning of a strong down trend for GBP/USD.
If the repercussions of Brexit are severe, we are likely to see a downtrend starting out in USD/JPY as well since investors will be looking for safer places for their money.
The point here is that we shouldn’t jump in the market unless we understand, through price movements, that the fear is present for the longer run.
What happened for me prior to Brexit
I’ve been fairly lucky…
I had a longer-term buy trade open on USD/SGD. I thought it would take at least 3-4 days for my trade to hit its target price. I went out to do a presentation on trading journals for the Montreal Traders Meetup.
Once I got back, I was surprised to see my take profit triggered. That was a quick profit, but I wasn’t expecting the USD or GBP would be that much impacted by Brexit.
The key here is that I wasn’t basing my trade on Brexit. In addition, entered several hours prior to the initual reaction and avoided all GBP, JPY, EUR, and CHF trades for the day.