For traders, black swan events like sudden "flash crashes" are undoubtedly one of the greatest challenges in their trading career.
For ordinary traders, a black swan event like a "flash crash" is a death knell; the violent fluctuations can easily lead to liquidation. However, for black swan hunters, such events are opportunities to make money; the extreme volatility brings the potential for enormous profits.
All forex traders hope to turn crises into opportunities during black swan events like "flash crashes" and make huge profits.
So, how exactly should we approach this?
Today, I am sharing insights from a genius forex trader, Matthew J. Slabosz, to see how he achieved a 60% profit during the Australian dollar flash crash in January 2019!
Below are his trade orders at the time and some insights he's gathered from reflecting on that experience. Hopefully, they can help you minimize losses and increase profit opportunities during similar flash crash events.
01 The Australian Dollar Flash Crash
As shown in the image below, such sudden flash crashes do occasionally happen in the forex market.
During the Australian dollar crash, AUD/JPY was the most severely hit major currency pair, falling 6.5% within minutes, which is akin to a natural disaster in the forex market, as shown in the image below:
Many believe that the crash was triggered by a surge in risk-averse sentiment due to a sharp decline in Apple Inc.'s stock price, with orders driven by risk-averse algorithms.
Of course, this is just conjecture, but prices did drop by hundreds of points in less than five minutes, occurring around the opening time of the Australian market, one of the lowest liquidity points in a forex trading day.
At that time, most major brokers were on break, so there wasn't enough liquidity from buyers to absorb the massive sell orders in the market, lending some credence to the hypothesis that algorithms triggered the flash crash.
Besides discussing the cause of the crash, the most important thing for traders is to learn certain lessons and acquire the ability to respond appropriately.
02 Opportunities and Challenges Brought by Flash Crashes
1: Opportunities
First, it should be noted that this currency crisis was a huge opportunity for some traders.
Given substantial evidence suggesting it was an algorithm-driven flash crash, it meant that all AUD and JPY currency pairs experienced a dramatically exaggerated price movement that morning, essentially an "accidental" price trend.
However, no other markets were affected by this event, including the S&P 500 and NASDAQ, indicating it was not a chain reaction but one that only impacted the yen and the Australian dollar. Hence, traders could buy AUD at this time.
Generally, after such events, there is significant motivation for bulls to drive the price back up because there’s no reason to let the currency's price depreciate greatly without cause.
Thus, the market is likely to rise in the following days. In fact, after the AUD flash crash, the price did rise over the next two days. AUD/JPY closed at 77.213 that week, approximately 150 points higher than the average price a few hours before the flash crash, translating to an astonishing 620 points in two days.
2: Challenges
Despite being a great money-making opportunity for traders, it's also an immense challenge capable of causing huge losses.
For example, traders buying AUD/JPY without a stop loss experienced significant losses, including those who set a large stop loss.
At the time, I had a small short position on EUR/AUD in one account. Due to the significant decline in AUD/JPY and the surge in other major currencies against AUD, my account initially faced losses, but it was within a risk I could bear.
I don't know if it would have been different had I taken a larger position, went long AUD/JPY instead of short EUR/AUD, or chosen another trading system.
However, in any case, never be overconfident in trading. If we don't have a plan to handle and respond to such events, it will be challenging to profit, and we are likely to lose a significant amount of money.
03 How to Deal with Black Swan Events?
1: Shift from Conservative to Moderately Aggressive
I am a relatively conservative trader. During the AUD flash crash, because I was uncertain how the market would change, I only took a small position and ended up making a modest profit.
Within 15 minutes, I made a 33% profit through a short position in EUR/AUD. Later, I discovered that if I had moved my stop loss to breakeven and held the position overnight, I could have earned more than 150%.
Such short-term gains are astonishing. Having a comprehensive response plan can help you earn more money.
During that crash, I was essentially in a trading suspension mode.
• Initially: I ignored the persistent short trend in AUD/JPY, assuming there wouldn’t be much market change, and I wasn't very adept at short-term framework trading, like intraday trading.
• Later: The market indeed started to rebound, so I planned to trade again because once the market began to recover, it wouldn't pull back in the short term.
Now was the time to follow 1-minute and 5-minute charts for algorithmic operations. As long as the price stayed above key moving averages or key intraday levels, I held larger positions.
In the end: I achieved about a 60% return within two days.
2: Summary and Reflection
For me, there were two main reasons for changing my trading strategy:
First, I believe that once a major black swan event occurs, another one is unlikely to happen immediately afterward.
Second, I learned from past mistakes and verified my changes based on market fluctuations.
Although I indeed made some errors during the entire process, like trying to repeatedly short AUD/JPY, thinking it was overbought at that point. I quickly adjusted when the market conditions changed.
Later, I printed out all the charts before and after the AUD flash crash and studied them from time to time to prepare for the next similar event.
04 Trading Examples A trader's goal is to make one good trade after another. A professional once stated that completing a good trade requires four factors: trading theory, order setting, market confirmation, and seizing opportunities.
The same applies when the AUD plummeted. Below, the author analyzes these four factors with their examples.
1: Trading Theory
During periods of low liquidity, algorithms lead to market crashes, causing prices to deviate significantly from the "normal value" range.
This wasn't due to a fundamental change in global market outlook, nor had the Australian economy plunged into a sudden crisis.
Thus, it can be reasonably assumed that the AUD price will significantly rebound or return to its original position.
2: Order Setting
Because there are few precedents for such black swan events, it’s challenging to develop corresponding strategies. In extreme market anomalies, caution and intuition are the best tools.
Of course, if you really can't understand, then simply abstain. However, if the market begins to change, use a trader's skills and abilities to earn substantial profits while ensuring trades are within acceptable risk.
For entry: When prices hold above recently supportive key moving averages or key intraday levels, you can buy, or directly buy when prices break consolidation patterns.
I used all three methods simultaneously and achieved decent gains.
For stop losses: Due to the volatility in spreads, I didn’t use fixed stop losses. Instead, I observed price actions to decide whether to close the position.
Traders should identify entry points and set take profit and stop losses before opening a position. Setting take profits is relatively more challenging. I missed earning ten times more due to my take profit choices.
3: Market Confirmation
As retail forex traders, we can't see consolidated trade records or know other traders’ orders as stock traders can, but prices never lie.
We can confirm by observing price actions. If prices fail to break and remain below clear key intraday support levels after repeated attempts, or break then swiftly recover and stabilize for some time, it shows signs of upward movement.
My favorite setup is testing the 50 EMA on higher timeframes and the 1-minute 50 EMA. Whenever prices indicate an upward movement in these areas, I prepare to enter.
My two largest trades were completed during the 50 EMA test on the 5-minute and 1-hour charts. I believe this works because trading algorithms seem to drive price changes and they tend to use indicators like the EMA.
When AUD/JPY tested the 1-hour 50 EMA and formed a 1HR bullish signal, a consolidation pattern, I achieved a 15% gain within about an hour.
I exited immediately when AUD/JPY formed a higher low on the 1-minute chart.
This trading strategy is usually risky, but during such special periods with high volatility, buyers will inevitably push prices to daily resistance levels.
Seizing Opportunities
This is my ongoing focus. In some cases, I entered too late or exited too early, which was frustrating.
During the AUD flash crash, if I had been more focused and prepared, my profits would certainly have been higher.
Seizing opportunities emphasizes capturing both entry and exit points.
• On the 4-hour chart, we have more time to plan and think, but during the tense moments of a trading day, we must stay vigilant and seize trading opportunities.
• While managing risk, early exits won’t cause severe impacts, but entering too late might result in losses.
As trading frequency increases and experience accumulates, traders will perform better in seizing opportunities.
4: Finally, for forex traders, our goal is to achieve maximum profits with minimal losses. Black swan events like the AUD flash crash offer such opportunities. Of course, the AUD flash crash was likely an algorithm-driven accidental event and doesn’t imply that similar future events will have the same characteristics. Hence, while leveraging crashes or black swan events to make profits, we must remain cautious and set stop losses properly to avoid overconfidence and end up losing everything.
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