The Art of Trading in a Market Full of Rumors and Speculation

Traders love to discuss and share their views, opinions, and insights with others. However, when faced with the uncertainty and volatility of the markets, it's easy to get influenced by what you hear. The problem is that when traders hear something that conflicts with their view, instead of sticking to their guns, many start to question their stance and begin to investigate how they may be wrong. As a result, their minds slowly change, and they lose their confidence and conviction in their trades.

To avoid this trap, it's crucial for traders to understand what they're trading based on and why. By having a strong foundation of knowledge and clear rationale for each trade, traders can remain steadfast in their decisions, even when faced with conflicting information.

I was already a successful trader in the late 80s, just before the stock market crash of 1987. Despite the turmoil in the stock market, currencies remained relatively stable, including the high-yielding "junk bond" currencies, such as the Aussie (Australian dollar) and the Kiwi (New Zealand dollar). I had previously had some negative experiences with the Kiwi, but as I noticed global investors shifting their assets to more secure alternatives, I felt compelled to dive back into the Antipodean currencies.

I had already made over $100 million that year and was willing to invest some of my profits into a large Kiwi option position. I was aware that investors had been buying Kiwi due to its high interest rate and relative stability, leading to the currency's appreciation. However, I was skeptical about the currency's current price level being justified.

So, I called up a Kiwi trader to get a better understanding of the situation. The trader informed me that there was Consumer Price Index (CPI) data coming out that day and regardless of the outcome, people would continue to buy the Kiwi. If the CPI came out higher than expected, investors would buy the Kiwi for its high yield, and if it came out lower, investors would buy bonds for capital appreciation.

I decided to reach out to another trader to get a second opinion. They confirmed the Kiwi was indeed going up due to offshore investors being attracted to high interest rates. The trader also mentioned there was a big player who was short and corporates were trying to squeeze them.

Curious, I asked another trader about the situation, and he too confirmed that the Kiwi was going up and that the offshore investors and high interest rates were driving its bid. He also mentioned there was a big investment house out of New York, Salomon Brothers, who were short.

I had worked at Salomon Brothers long enough to know they wouldn't cover their short position just because of a small adverse move of 50 million Kiwi. A two-cent move against them would only result in a loss of a million dollars, which was not a significant amount for Salomon.

The market was heavily skewed towards the belief that Salomon was short and the market was moving against them. Although this information wasn't hurting me, I was starting to dislike the attitude of the traders who were basing their decisions on this belief. I was feeling a sense of unease, like there was a boom-bust on the horizon.

So, I decided to make the rounds and call up a few other traders. To my surprise, the story was always the same. Everyone was buying kiwi, and no one was willing to consider any other options. It was then that I realized that everyone was relying too much on this single belief, and I thought that it was time to do something different. I decided to sell some kiwi instead.

I called back the first trader I had talked to and asked him to give me a price on 50 million kiwi. He agreed, and gave me a price. But then, just as quickly as the price appeared, it changed. I was shocked, but I managed to keep my cool and agreed to sell my 50 million kiwi at the somewhat worse price.

The screens were quickly marked up, and the price changed again. I was beginning to feel frustrated and angry. They had changed the price on me after I had already agreed to the deal. I was now truly annoyed and wondering how I was supposed to trade in this market.

A few days went by, and I watched as the kiwi traded up and down. I was feeling increasingly uncertain, and I was beginning to think that maybe the traders were artificially bidding the currency higher. But on the other hand, maybe there really was some natural demand for the kiwi. I didn't know what to believe.

I decided to reach out to a friend, a currency trader at Salomon, to see if they had any insight. When I asked him if the rumors were true that they were short kiwi, he confirmed they were. Despite making a lot of money trading kiwi, it still bothered him. I asked if he could get me a price on 100 million kiwi as I wanted to sell some and he agreed to help.

When my friend called a bank in New Zealand for a price, the dealer quoted a price and he sold 100 million kiwi. On the screen, the price went down about twenty or thirty points before quickly coming back up. He said, "My God, I guess it is bid," and I thanked him for the deal.

After that trade, I was now short 200 million kiwi. Having watched this currency trade around, I began to think to myself that the market was artificially pumped up and there must be a huge number of stops at lower prices. I was confident that if the kiwi were to fall, the central bank would not interfere with its decline.

With instability in the financial markets and the recent U.S. stock-market crash, I realized there would be continued instability and nervousness among investors. I felt that this market could easily drop 10 percent.

I called a dealer in Sydney and asked about their liquidity in New Zealand. They quoted a price and I sold 50 million kiwi. The market started to go down and I sold 50 million more. I was establishing a short position while using call options, and as the market started to break down, I accelerated my selling to complete my hedge.

As the hours went by, the Kiwi continued to drop, and I was making a fortune. The market reaction was reflected in my view that the currency was going to go even lower. The supply in the market grew as the currency continued to drop, and I decided to wait for it to bounce back a bit before completing my selling.

A few days later, the market had finally finished dumping its Kiwi positions, and the currency found some reasonable demand around the .59 level. Despite what other Kiwi traders believed, I knew that in an open market, prices can always go up or down... And I was right.

I heard rumors that many people lost a lot of money on this play, with banks, corporations, and investment houses taking positions based on the false assumption that the Kiwi could only go up.

Despite the conflicting opinions from other traders, I decided to go ahead with my trade in the Kiwi position. The trade paid off, and I was able to make a substantial profit from it.

This shows the importance of of seeking multiple opinions and not relying too heavily on a single belief. Despite many traders confirming the same thing, I still sold it based on my own opinion.

I focused on what I could control. And that was my own positions, my own profits and losses.