V.12:9 (366-369): Trading The Ratio Of The RSI by Russell Rhoads

Trading The Ratio Of The Rsi by Russell Rhoads

Here's a method for trading the spread between the Swiss franc and the Deutschemark. The technique involves using the ratio of the relative strength index (RSI) of each currency to identify trading points.

The correlation between the Deutschemark and the Swiss franc, considering the strong fundamental economic ties between the two countries due to their close geographic proximity, always seemed to be obvious to me. So when I discovered that a floor trader was using technical signals from the Deutschemark to trade the franc, it occurred to me that there had to be some way to trade the franc and the mark together profitably. Further, I reasoned, since the currencies trade in tandem, shorting one and going long the other at the same time would be a low-risk venture.

Figure 1 shows the two currencies together for the last six months of 1993. The two are definitely moving in line with each other, but further investigation was necessary to determine if it were possible to make a profit from the correlation.

Although additional transaction costs are involved in trading two separate currencies instead of just one, trading the opposite sides of the franc and the mark reduces some of the risk generally associated with currency markets. Taking the opposite sides of two very similar vehicles is not unlike trading different expiration months of the same futures product. The prediction that must be fulfilled is not what direction the currencies are going to move but rather if these two currencies are going to resume moving in the parallel fashion they have in the past. Currency trading has been construed as being extremely speculative, but this method of taking advantage of discrepancies between the franc and mark is a low-risk way for individual speculators to be involved in this potentially lucrative trading arena.