What is a black swan event?

Throughout history, black swan events have caused major ructions in the forex/stock markets. They are named as such because they are catastrophic market movements that are caused by things that people should have seen coming.

Examples of black swan events.

• Subprime mortgage crisis – this was a major crisis in the USA. Mortgages were sold to people who could never afford to pay them. These were bundled with good mortgages and then insured. Eventually, of course, the amount of debt that was unpaid broke the back of the banks and resulted in catastrophic failure. This caused a recession from 2007 to 2009.
• The EURCHF Flash crash. This black swan event was caused in January 2015 when the Swiss National Bank unexpectedly removed the peg between the price of the Euro and the Swiss Frank causing huge slippage. The pair dropped 20% in one minute bankrupting many brokers.

• The dotcom bubble, of course, is one of the most famous black swan events. This event occurred mainly because people went crazy investing in companies that really had no basis for success, often over funding them with millions of pounds. Often these venture capital companies had no real clue of what they were investing in. Companies were floated on the stock market that honestly had no business being floated.
• In Britain, Black Wednesday, which occurred on September 16, 1992, is now known as the day when speculators “broke the pound,” which is a euphemism created to describe the moment in time when they came together to force the British government to pull the pound from the European  ERM. Joining the ERM was part of Britain’s effort to help the unification of the European economies. However, in the imperialistic style of old, it became clear that Britain had tried to stack the deck. Black Wednesday is arguably a consequence of this effort.

What can we do to stop these events or predict them?

• Watch the markets closely, although these are generally fundamental (news based) events, there are often market moves that precede them.
• Trade with stops – trading without stops is trading suicide. This kind of event can not only wipe out your account but actually put you in debt.
• Do not trade the same currency. My robot, for instance, will not trade GBPUSD if it is trading GBPCAD, it won’t trade GBPJPY if it’s trading EURJPY, don’t trade against yourself.

I actually made good money on the EURCHF fall because I was short the pair at the time. Only through technical analysis though.

chart courtesy of StrobotUltimate