Trading on Expectations.

Firstly, an Expectation is the Average Payoff after taking into consideration the likelihood of a desirable outcome, payoff and the cost of invesment. You would do something if an expectation is positive. (i.e. a positive bet.)

E(x) = p(x). payoff - cost of investment.

Found this insightful synopsis on the various types of expectations traders (investors?) form when they buy and sell commodities in Moosa, "International Finance: An Analytical Approach", 2nd Ed. Ch. 4 pp. 107

Moosa quotes Pilbeam's[1] research concerning expectation formation mechanisms:

Extrapolative expectations mean that the exchange rate is expected to rise if it rises in the current period, and vice versa. (If ER rise now, it will continue to rise in future.)

Adaptive expectations mean that if exchange rate rises in at least 2 of the last 3 periods, then it should be expected to rise in the coming period. (If ER rising for past 2 out of 3 periods, then it will continue to rise in future.)

Regressive expectations mean that the exchange rate is expected to rise if it falls in the current period, and vice versa. (If ER is falling now, then it will rise in future.)

Rational expectations mean that expectations is formed on the basis of all available information. If this information is reflected in the forward (i.e. type of derivative) spread, then a currency that sells at a premium should be expected to rise, and vice versa. (If Forward Spread indicates rise, then a currency that sells at a premium should rise in future.)

Heterogenous expectations occur when the trader follows the majority signal. (Monkey see, monkey do.)

Contrarian expectations occur when the trader follows the opposite of the majority signal. (Monkey see, monkey do opposite.)

So as an investor with an element of speculation in you, how do u form your expectations?

[1] K. Pilbeam, 'The Profitability of Trading in the Foreign Exchange Market: Chartists, Fundamentalists and Simpletons', Oxford Economic Papers, 47, 1995, pp. 437 - 52.