This move in the Yen was discussed in Chapter 1. And if you remember the story of Old Partridge (page 46) you will have got the message about staying in: we must not “lose our position” so long as the reason for holding it is still intact. The little hesitation around Y137 by no means challenged our reason for holding the Yen, which was to do with its need to “catch up” with the reality of its changed yield equation: our catch-up target was Y120.

That target was arbitrary , but the rules for getting out are not quite so arbitrary. Aside from an underlying rationale, our reasons for opening a position always include a polarised picture in our 4 sentiment gauges. If our analysis turns out right, we shall always see some degree of reversal in the polarisation of sentiment. Two times out of 3 we are rewarded with a completely opposite picture: the oversold currency becomes overbought; the overbought currency becomes oversold.

Every case will be different, but the rule for getting out holds: what matters is not how close to the final top or bottom we get out – that’s mostly luck: what matters, as noted, is that we have a rational formula for getting out which is worked out beforehand. We can set a date: we can use a crawling stop: we can set a price target: we can use a combination of these methods. But deciding the formula beforehand is the thing.

The end of the 1980s and the early 1990s witnessed some large fluctua-tions in the Yen against the Europeans and in the SF and pound against the DM –in the cross rates, in short. In some instances there was a visible ra-tionale at play, particularly with the Yen. This was the big move by the Japanese life insurance companies to reduce the enormous hedges* they had against the dollar risk in their US bond portfolios: when the dollar was perceived to have stabilised in 1989, these hedges made no sense.

During the first stage of the Yen’s marked relative weakness, when the dollar was generally strong –the sharpest move was in the Yen/$ rate –and this was the right and logical play for performance seekers. This is not said with hindsight: CB forecast the Yen would be “the weakest of the currencies” in PROSPECT 1989. When the European currencies began to rally in H21990 and the Yen carried on weak, the DM/Yen cross-play was a much better speculation, in the event. But was it foreseeable that the Yen would be a better sale against DM than dollar? This CB did not foresee, nor did one see any analysis to that effect before the event.

There were brief windows when relative strength in sterling and Swiss franc against the D-Mark seemed to coincide with a solid rationale. But in most instances, and for most of the time, I think these cross-rate trends were, and may continue to be, creatures of fashion – self-feeding from a more or less chance initial price trend. In such a situation, you are forced to fit your time-frame* to the lowest common factor in the market. It’s a matter of taste. But they will surely continue to be popular with professionals, when they are at a loss to forecast the dollar.

“Teach us to to care and not to care. Teach us to sit still”.

T.S. ELIOT

Acurrency fund adviser had two accounts. He lavished great care on his flagship account, which had a good record. The other one took little of his time. It was an individual account, whose owner was not concerned with the week to week or even month to month evolution of the account.

One day the adviser decided to do an analysis of the two funds. As he had expected the number 2 account, which was more highly leveraged, had a better record. But he was quite unprepared for the extent of the difference. Over the brief study period of 15 months, the flagship account was up 35%, and the maximum “drawdown” was 11.5% from monthly peak to trough. Meanwhile the number 2 account was up 92%, with a maximum drawdown of just 9.2%.

The two accounts had been run on a similar basis. The only difference lay in the attitude of the account adviser to the two accounts. On the flagship account, the adviser lavished daily care, with frequent adjustments to the risk level; he was acutely conscious of each monthly reporting date; he was deeply concerned about drawdown*; and he kept a careful tally of the value of the account. With the number 2 account, he was barely conscious of the account value and made few changes, typically dealing only at multi-week intervals.

The difference in the performance of the two accounts was not luck. It reflected a phenomenon which has been noted and observed by a number of expert fund advisers. The phenomenon is not easy to put into words: worry doesn’t help performance; being careful does, but being full of care does not; caring about doing the right thing helps, but caring about being right doesn’t; nor does caring about money. The crowd worries, cares about being right and cares greatly about money.

The thing we must be absolutely clear about is the crowd’s inherent tendency to be wrong in financial markets. Crowds are not noted for

understanding and clear thinking. In fact they are deluded and mad, according to Charles Mackay (Popular Delusions and the Madness of Crowds), But that’s not the prime reason for their inherent wrongness. It’s to do with the price mechanism of free markets. The crowd’s participation makes the price movement so it has to be diametrically wrong at the extremes –inherently. And that applies to all extremes, to greater or lesser degree, i.e. short, intermediate and long-term extremes. In zero-sum games like the currency markets, the crowd has to lose over both years and decades. It loses to players who play differently from the crowd.

The crowd loses, If you are part of it, you lose.

As readers know, Currency Bulletin’s approach to analysing the currencies – its method – is essentially anti-crowd. We look where the crowd is not looking for an underlying rationale for the direction of the main trend. And we use a series of contrarian* sentiment indicators designed to orient us in the opposite direction to the crowd. This method has worked well, and it is timeless so it should always work. The method is OK. If we can have confidence in it and can apply it, we shall win.

But as the great traders constantly remind us, being able to have confidence in a method and to apply it consistently, hence winning, depends on our mental attitude. So long as our mental attitude is that of the crowd, we won’t make it. And but for the grace of fortune or our own determination, we are members of the crowd. Who is the crowd made of but you and me and the rest? If you cut us, do we not bleed?

Well, who is the crowd made of – the trading crowd, that is? Or more precisely, who dominates it? The Joker (the mischievous spirit of the marketplace) determined that the leaders of the crowd be the people most of the crowd aspire to be. Of above average intelligence; good at their lessons; possessed of highly analytical minds; plausible; conforming. The kind of couth, clean-cut individual that appeals to members of the investment committee, because he (she) resembles them or incarnates the image they have of themselves. Such are the people who run the management funds, bank trading desks, trust departments and economic advisory sections, at the major financial institutions.

Their (our?) mental attitudes and thought patterns tend to follow along similar lines, which have been programmed by their upbringing. Let’s consider three forms of programming which are common to all of us.