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How to Make Money on Volatile Currencies

With downside danger so great for the euro, focus on call-selling and shorting futures contracts. Otherwise, buy puts to reduce risk.

Certainly investors have taken notice of the wild swings in the currency markets in recent weeks. Clearly, this is one of the reasons for gold's strength, even in the face of a stronger dollar. People are simply losing faith in fiat currencies.

The euro is a prime example of the type of currency volatility we have seen recently. Just back in December, the euro was trading over the 1.50 mark vs. the greenback. Due to sovereign debt issues (think Greece) the euro has slid steadily and rapidly to trade currently around 1.36 vs. the dollar. Many investors are left wondering if the selling is beginning to subside, and although it may be temporary, the outlook for the euro is bleak.

Let's face it, even if Greece is "bailed out" and given the help it needs to get its debt under control, Spain, Portugal and numerous other countries are standing right behind it in line. Bottom line is the euro zone debt problem is not going to go away anytime soon.

Furthermore, the EU crisis calls for "loose" monetary policy, and leaders will keep rates extremely low in order to not choke off the fragile economies, even if it means sacrificing euro strength in the process. Here is how to take advantage of this scenario moving forward.

Although I typically like to sell calls and puts, in this case, the downside danger is too great. Therefore, we will focus on call-selling and shorting futures contracts. Given the fact that the euro has tumbled quite far quite quickly, a good position will require a little patience.

Markets usually do not go straight up or straight down, and I do not believe this will be an exception. At some point, the shorts will cover, driving the market temporarily higher. That is the time to strike.

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I recommend selling calls on any move toward the 1.38 area. Look to sell calls at the 142 strike and above. If this move to 1.38 materializes, I estimate one should be able to collect a minimum of $500 per contract for the April 142 calls.

The April options have 46 days until expiration. In addition to selling calls, this would present a good opportunity to sell the euro futures contract. I recommend selling euro futures at 1.38, with a protective stop at or just above 1.40. This equates to a risk on the trade of approximately $2,500 per contract. If filled, one can "trail" the stop in 50-point increments as the market falls. Look for the euro futures to make new lows in the coming weeks.

For those who do not want the unlimited risk of selling calls, and prefer not to trade futures, one can always buy puts as well. We may see the euro test the 1.30 level against the dollar in the very near future, and we will structure this put purchase with that in mind.

I recommend buying the May 130 puts outright for $1,162 or lower per contract. Once purchased, no position maintenance is necessary. This option has 74 days until expiration, allowing plenty of time for the continued downside to develop.

Should the puts double in value, I suggest selling out half the position to cover your costs, should the market turn around. If the move does not develop, I suggest selling out the puts with not less than 30 days until expiration. Once inside this 30-day window, the odds of a winning trade become much lower, and at that point, a trader's primary concern should be to protect his or her trading capital and wait for the next opportunity.

Matt Zeman is a principal with Lasalle Futures Group and chief market strategist for Time Means Money.Com.