Trading financial instruments are subject to a lot of risks as this kind of trading is leveraged and leveraged products are difficult to handle. But risky products offer high returns and this is why people are being attracted by financial markets: the possibility for a quick return is always prevailing in front of the risks associated with it.
Forex trading brings together both sellers and buyers of a specific currency pair that strive to profit from the difference between the entry price and the exit price of a transaction. Sellers will look to close a short position at lower levels, and they will square the short by buying at lower levels. The difference between the entry and exit price is being called a profit, and if the market moved to the upside instead, the trading account suffers a loss. Before you start, you should know some basic forex strategies.
Technical and Fundamental Analysis
Before jumping and take a position on the forex market, a trader needs to first do a proper analysis of the currency pair he/she wants to buy and base the trade on that outcome.
There are two major types of analysis one can make. If the trading decision is being based on a pattern, or on a move a specific indicator is making, or on a trading theory, etc., it is being said that the trader opened the trade based on technical analysis. On the other hand, if the trade has been taken based on interpreting a specific economic news/release, then the reason was a fundamental one.
Technical Analysis
Technical analysis strategies are being based on interpreting previous patterns price made on the left side of the chart with the idea of projecting a forecast on the right side of the chart in order to make a profit from this move.
There are many forex trading strategies based on technical analysis aspects, and the ones listed below are just a few.
Strategies with Trend Indicators
Trend indicators are offered by any trading platform and they are applied on the actual chart. The idea behind a strategy that involves trend indicators is to buy dips in a bullish trend or to sell spikes in a bearish trend.
Sometimes multiple trend indicators are used on the same chart with the purpose of identifying trend reversals, but it should be mentioned here that chances to pick a top or a bottom using trend indicators are smaller than when using oscillators.
Strategies with Oscillators
Oscillators are being attached to the bottom of a chart and they are very useful in building strategies that call for a reversal to happen. Therefore, picking tops and bottoms is easier when trading with oscillators.
By definition, an oscillator is showing overbought and oversold levels and the idea of trading with an oscillator is to sell in an overbought are and buy in an oversold one. While this is true and valid most of the times, when the market is in a strong trend one can be trapped on the wrong direction.
One way to overcome this is to use an additional instrument for your trade, like a divergence between price and oscillator. If a bearish divergence is forming in an overtrade area, it is just another sign that comes to complement the initial short setup.
Strategies with Elliott Waves Theory
This is one of the most beautiful trading theories out there and even if it was developed based on the stock market, it is working extremely well on the forex market as well.
The overall idea Elliott had was that markets are moving in waves or different degrees, and any five wave structure should be corrected with a three wave one. All good and simple and exactly this simplicity makes it so complex.
Each and every wave out of those mentioned above is formed of different waves of a lower degree and so on, and this is where the complexity comes from.
One of the simplest forex trading strategy to be used is to wait for the first two waves in an impulsive wave to form and then trade for the end of the third wave as a target. The idea is that the third wave needs to be the extended one (most of the times), and this means it should be bigger than 161.8% than the first wave.
Therefore, there’s a take profit for the trade and everyone is looking to trade the third wave.
This is just a simple example of a trading strategy that can be used with Elliott Waves theory but in reality, there are so many things to consider that one can use the Elliott theory for trading day in and day out.
Strategies with Gartley Method
The Gartley trading method consists of waiting for a move to happen and then simply wait for a retracement that exceeds 80% of the original move, while not going beyond 100%.
Based on the first moves (the original one and the retracement), a target can be calculated based on a mathematical formula, and the stop loss should always be set at the start of the original move.
The beauty of this strategy is that it allows for a high risk-reward ratio setup and even if the stop loss is being hit for a few times, the take profit should come only once and the trader should be in profit again.
Besides the above-mentioned ones, there are many other trading theories and strategies one can use, like using the Gann trading method, the Pitchfork, Renko charts, point and figure, Japanese candlestick techniques, etc.
They are all part of the technical analysis and allow traders to enter a market with a concrete idea what the stop loss and take profit levels should be.
Fundamental Analysis
Trading is not only technical, though, as fundamentals factors are moving markets as well. It is being said that while technical analysis shows the direction the market will move, the fundamental analysis offers the reason why the market will start moving.
Currency pairs reflect mostly the differences between the two economies the two currencies represent. For example, the GBPUSUD currency pairs will move based on the economic differences between the US economy and the United Kingdom one.
These economic differences are being seen and based on the economic releases that come out of the UK and the US and positive news out of UK should see the GBPUSD moving higher and positive news out of US should see the pair moving lower.
Out of all that economic news, one can see on the economic calendar, a difference needs to be made between the ones that really matter and the ones that are secondary when it comes to their importance.
Currency trading strategies based on fundamental analysis should focus on interest rates evolution and inflation. Therefore, central bank meetings and central banker’s speeches are of high interest as well as when the Consumer Price Index (CPI) or inflation is going to be released.
Everyone wants to own a currency that pays a higher interest rate and interest rates are being moved by central banks when inflation is moving as well. Higher inflation brings higher rates and this is positive for a currency, while lower inflation brings lower rates and this is being viewed as negative for a currency.
Time Oriented Trading Strategies
Besides trading based on technical or fundamental analysis, the time element can have a distinctive influence on the trading strategies one is using.
Some traders prefer entering a market for small profits, others take into account bigger time frames, and other are even looking for being there for the long run. These traders can be grouped based on the trading strategy they’re using.
Scalpers (Short-Term Oriented Traders)
These traders don’t care about anything but to make a quick buck as fast as possible and, if possible, with as little drawdown as possible. They are entering and exiting a trade really quick, based either on technical or fundamental analysis, or both, and have no bias regarding the general direction of the market.
- If the trade is based on a technical analysis, then the setup is coming from lower time frames like the one-minute chart or the five minute one. If it is based on fundamental analysis, then they will just trade in the direction of a spike caused by an important economic news and exit as fast as possible.
- In order to make it day in day out and to make a profit, these traders are entering the market with bigger volumes so that the small number of pips that results as profit will be covered by the bigger exposure they have.
- These strategies tend to be risky if they are carried out based on economic releases and tend to have a greater rate of success if the trading is done when the market is mostly ranging, like in the Asian session.
- During those small ranges when the market is not really moving, catching a five pips move with high exposure, based on a divergence or an oscillator in an overbought or oversold area works most of the times.
Swingers (Medium-Term Oriented Traders)
Swing traders are using medium-term strategies when it comes to their trades and they take their entries from the bigger time frames, like four hours chart and up to daily charts.
- These strategies are like the ones listed above, mostly doing top/down analysis (meaning they’re starting from the bigger time frame and come down with a time frame that can actually be traded) and take a trade having in mind both price and time.
- Elliott Wave theory is one theory that allow this kind of strategies to be implemented as both price and time are part of it. There’s no time horizon for the take profit or stop loss to be hit, but time can invalidate a scenario.
- The usual time the trades are being open is anywhere between a few hours and a few days or even weeks and this type of trading suits traders looking for picking reversals (top or bottoms).
- While this is a risky strategy, it works like a charm as the trader is looking either at fundamental or technical reasons until the take profit is being reached, without time to be an issue.
Investors (Long-Term Oriented Traders)
Like the name suggests, investors are looking at strategies that take quite some time and they’re working with weekly and monthly charts, some more historical data, plus fundamental analysis on top of that.
- These traders have access most of the times to the interbank liquidity providers and commissions, swaps, or other things that concern the day to day retail trader are not an issue here.
- The biggest advantage for these strategies is that these traders do not really care about each and every economic release that is going to hit the wires, but they do care about being right on the long run.
- When investing, the total capital to be deployed is never traded at once, but used in so-called scaling trading, namely looking for better levels to entry the market. These better levels are most of the times levels that are going against the initial position, but by adding that that initial position the investor just gets a better average on the overall portfolio.
Summary
To sum up, the forex market is influenced by so many factors that anyone can create a strategy. Such a strategy can be defined either based on the trading style of a trader or based on what kind of analysis is using: technical or fundamental. In all cases, it should be noted that there’s no holy grail in trading, meaning there’s no one strategy that works in one hundred percent of the cases. Because this market is so huge and reacts to so many different inputs, it is constantly changing and traders cannot adapt to these changes overnight. Therefore, having some losses from time to time is only normal, as well as having a losing streak. What is important is to learn something from those periods of time and the trading account to keep rising over the long term. If you’re able to do that, then you can call yourself a genuine forex trader.