Often when people inquire about what I do for a living, my response is “I head up the institutional sales efforts in foreign exchange and futures for Brewer.”  The next question (especially if the person is a private investor) is “What are the institutional guys doing in the markets these days?”

I can’t tell you what any specific client is doing but I can give you a glimpse into how some institutional investors think.  Many private investors can use some of this knowledge to help them.  In this brief research piece I can give you a little strategy that may help you.  First let me give you a quick background on who I am.  

For the past 20 years or so I have worked with hedge fund managers, insurance companies and investment funds while employed at Lehman Brothers, the Chicago Mercantile Exchange and Merrill Lynch.  I have advised clients from Europe, the Middle East, Asia and the United States.  

Looking For Love In All The “Alpha” Places

Most institutional (“buy side”) investors are seeking “alpha.”  Essentially, this is a positive return above an index, such as the S&P 500, Russell or the Goldman Sachs Commodity Index (GSCI).  

Many institutional fund managers keep or lose their jobs based on how their funds perform relative to a benchmark index.  This is why the mutual fund literature you may have seen tends to compare the fund to the S&P 500 or other broad indexes.

Many institutional investors look at what I call the “liquidity cycle.”  Remember, this crowd does not tend to be the traditional trend followers.  Many from this group will “sell demand” and “buy supply.”  This is the mentality of the market makers. These are the guys from the South Side of Chicago with names like “Mickey” and “Johnny” who have high school educations, can do complex math in their heads and can trade from nothing but a ticker tape. These are the real old school pros from the pits.

My friend Jack Bouroudjian in his book “Secrets of the Trading Pros” is one of the few authors to write about this group.  

Where The Flow Goes The Dough Goes

For this illustration, let’s define the liquidity cycle as being how much buying power or selling power it takes to move a given market a certain distance.  Sometimes this is measured by accumulation/distribution algorithms or by standard deviation bands with Fibonacci calculations.   

In the chart below you can see prices over this range get “too high,” i.e., the positive liquidity flow peaks in the British Pound Japanese Yen (GBPJPY) currency pair in the middle of July 2007.

Chart 1

Think of this liquidity flow as gas in the tank of a given market move.  The market hits a high price of 251.05 (all the gas is used up) then begins a slow decent until the cycle is over in March 2008 and then starts again.

In the chart below the Euro U.S. Dollar (EURUSD) moving to the highs in April 2008 and then backs off in August 2008.

Chart 2

An extreme case is found in the Australian Dollar U.S. Dollar (AUDUSD) in July 2008. As price moves back into the band potential short trades can be entered at the 21 bar low while using the 21 bar high as a protective trailing stop. Remember to watch the market carefully as market or technological conditions may make it impossible to execute protective stop orders.

Chart 3

Our final example is from the positive side of the ledger.  The U.S. Dollar Swiss Franc (USDCHF) chart below shows potentially bullish overtones for the U.S. Dollar going forward. Notice the extreme lows in distribution, price and range simultaneously occurring in March 2008. As price moves back above the lower band long positions can be initiated by using the 21 bar high as an entry point and the 21 bar low as a trailing stop. Remember to watch the market carefully as market or technological conditions may make it impossible to execute trailing stop orders.

Chart 4
 
Bottom Line: If you can pinpoint liquidity flow turning points you may have an edge.  But Forex (off-exchange foreign currency futures and options) trading carries substantial risk of loss and is not suitable for every investor. It is important that you understand the risks of such trading and that you invest only risk capital. Past results are not indicative of future performance.

Charts courtesy of MultiCharts

Contact us at:
Local: 312-896-3930
Toll Free: 1-800-971-2440.

www.BrewerFuturesGroup.com
This e-mail address is being protected from spam bots, you need JavaScript enabled to view it

To receive the indicators and calculations used here please send me an email at This e-mail address is being protected from spam bots, you need JavaScript enabled to view it   and I will give them to you.  

Happy Trading!
Kelly Wright
Director, Sales
Institutional Futures and Foreign Exchange
                                                    
IMPORTANT INFORMATION: Forex (off-exchange foreign currency futures and options or FX) trading involves substantial risk of loss and is not suitable for every investor. The value of currencies may fluctuate and investors may lose all or more than their original investments. Risks also include, but are not limited to, the potential for changing political and/or economic conditions that may substantially affect the price and/or liquidity of a currency. The impact of seasonal and geopolitical events is already factored into market prices. Prices in the underlying cash or physical markets do not necessarily move in tandem with futures and options prices. The leveraged nature of FX trading means that any market movement will have an equally proportional effect on your deposited funds and such may work against you as well as for you. In no event should the content of this correspondence be construed as an express or implied promise or guarantee by B.I.G. Forex, LLC and Brewer Investment Group, LLC or its subsidiaries and/or affiliates that you will profit or that losses can or will be limited in any manner whatsoever. Loss-limiting strategies such as stop loss orders may not be effective because market conditions or technology issues may make it impossible to execute such orders. Likewise, strategies using combinations of positions such as “spread” or “straddle” trades may be just as risky as simple long and short positions. Past results are no indication of future performance. Information contained in this correspondence is intended for informational purposes only and was obtained from sources believed to be reliable. Information is in no way guaranteed. No guarantee of any kind is implied or possible where projections of future conditions are attempted.