If you open up any charting package and attempt to put some form of technical indicator alongside the price, you will usually be presented with endless different technical indicators to assist you with your trading.
This can be slightly overwhelming when you first start using technical analysis, because you don't know which indicators are best, what information they are conveying, or how to interpret the data. So in today's article I'm going to briefly discuss the different types of technical indicators available to you.
There are basically four different types of technical indicators:
1. Trend indicators.
These indicators are used to indicate the direction of a trend. These are very useful because the basic rule is that you should always trade with a trend and not against it. Some examples of trend following indicators include Parabolic SAR, MACD and Moving Averages.
2. Momentum indicators.
Momentum or strength indicators are used to indicate the speed or strength of a move in price and are best used to determine a change in direction. They tend to be oscillating indicators showing overbought and oversold positions. Examples include CCI, RSI and Stochastics.
3. Volatility indicators.
These indicators, as the name suggests, show a change in volatility, which often leads to a change in price. Examples include ATR, Bollinger Bands and Envelopes.
4. Volume indicators.
Volume indicators are used to show the volume of trading in a particular currency. These are useful to confirm the direction of a trend or to signal a breakout. For example, if the pair trades in a narrow range and then breaks out on high volume, then this is a very bullish signal. Examples of volume indicators include Chaikin Money Flow, Demand Index and OBV.
The ideal charting set-up should have at least one indicator of each kind, but it's also important to remember that technical analysis is not foolproof. It's there to help you make trading decisions, but no indicator or set of indicators will give you a 100% success rate.
I've only touched on some of the technical indicators in this article and will discuss each one in more depth at a later date.
Friday, June 12, 2009
Trading Forex Using A Breakout System
Trading forex breakouts is one of the more basic trading strategies, but nevertheless it can deliver excellent profits. Just because a system is easy to follow does not mean it cannot produce consistent profits as breakout trading is a method used by some of the most successful forex traders around.
It's based around the whole premise that if a currency pair is trading in a very tight range for a sustained period of time, then eventually it will break out of that range and more often than not it will continue moving in the direction of the breakout.
This means that to make consistent profits you need to firstly identify instances where a currency pair is trading in a narrow range, and then place buy and sell orders at or slightly outside the current range to catch the breakout when it happens.
Furthermore if you want to look for the optimum set-up then you can use technical indicators to help you. My own method is to use a weekly 30 minute chart displaying 15, 50 and 100 period exponential moving averages.
When the price starts trading in a narrow range and all three of these EMA's have flattened out and also currently lie within this range, then this to me is the perfect breakout set-up. Why?
Well because with all three EMA's flat, something's got to give. It's like a volcano waiting to erupt. Once the breakout occurs, you could get a very big movement because the longer term EMA (100) can trend for a very long time so you could get a big points haul if this EMA follows the price and moves outside of the current trading range.
As regards targets and stop losses, I personally use the current trading range to determine where I place my stops so if I go long at the top of the range, then my stop loss will be at the bottom of the range. This is only really an emergency stop as most of the time the breakout will follow through and not go anywhere near this stop loss. My target price is usually the same number of points away as the stop at the very least.
The best thing about this system is that it works pretty well across many different time frames, plus not only does it work well for trading forex markets but it's also an equally good system for trading other financial instruments as well.
It's based around the whole premise that if a currency pair is trading in a very tight range for a sustained period of time, then eventually it will break out of that range and more often than not it will continue moving in the direction of the breakout.
This means that to make consistent profits you need to firstly identify instances where a currency pair is trading in a narrow range, and then place buy and sell orders at or slightly outside the current range to catch the breakout when it happens.
Furthermore if you want to look for the optimum set-up then you can use technical indicators to help you. My own method is to use a weekly 30 minute chart displaying 15, 50 and 100 period exponential moving averages.
When the price starts trading in a narrow range and all three of these EMA's have flattened out and also currently lie within this range, then this to me is the perfect breakout set-up. Why?
Well because with all three EMA's flat, something's got to give. It's like a volcano waiting to erupt. Once the breakout occurs, you could get a very big movement because the longer term EMA (100) can trend for a very long time so you could get a big points haul if this EMA follows the price and moves outside of the current trading range.
As regards targets and stop losses, I personally use the current trading range to determine where I place my stops so if I go long at the top of the range, then my stop loss will be at the bottom of the range. This is only really an emergency stop as most of the time the breakout will follow through and not go anywhere near this stop loss. My target price is usually the same number of points away as the stop at the very least.
The best thing about this system is that it works pretty well across many different time frames, plus not only does it work well for trading forex markets but it's also an equally good system for trading other financial instruments as well.
Can You Be A Successful Forex Trader Trading Just One Indicator Only?
In a quiet moment last weekend I was wondering if you could trade forex full-time just using one technical indicator.
My conclusion was that it would be extremely difficult, if not impossible, to make consistent profits, but then I remembered back to when I first started trading forex a few years ago, and realizing that back then I pretty much only used one indicator - the Exponential Moving Average / EMA (15), and did make consistent profits.
Technically speaking I didn't use only one indicator as I also displayed the EMA (50) and EMA (100) on the same chart to help me decide on exit strategies, and nowadays I use a lot more indicators to confirm my positions, but nevertheless I still think this basic approach of using an EMA (15) on a 30-minute chart could still generate regular profits.
The trick is to look for currencies that have been trending strongly in one direction for a few days with a rising or falling EMA (15), and wait until this EMA changes direction and signals a reversal.
Furthermore when this EMA does change direction you ideally want to enter into a position when the price is close to or touching this EMA for maximum value. Place stops about 20 or 25 points below this EMA in the rare instances where you get a false reversal, but in most cases the reversal will happen and you can potentially make 30-200 pips depending on the strength and momentum of the reversal.
Also, you ideally want to trade in the direction of the long-term trend, so let's take a real-life example – the GBP/USD.
The long-term yearly trend has been upwards so we ideally want to find positions where the EMA (15) has been heading downwards for a few days and watch for a change in direction, so we're trading in the direction of the long-term trend.
If you look at a 30 minute chart of this pair for this month (October), you can see three obvious instances of this happening.
The first instance was between 3/10 and 4/10 when the price fell from 2.0440 to 2.0280 before bouncing back and heading upwards again. The EMA (15) started heading upwards as well between 2.0310 and 2.0320 and there were plenty of opportunities to trade close to this EMA to get maximum value (sometimes the price blasts through the EMA without retracing, making it hard to get any value from the trade).
As you can see, this upwards trend continued until the price reached a peak of 2.4030 so you could potentially have made a profit of 100+ pips, but even if you'd held out until the EMA (15) started heading downwards which was confirmed around about the 2.3080 mark on 5/10, you could still have netted about 70 pips profit.
Similar set-ups occurred on 9/10 when there was another 100+ point reversal, and on 12/10 when there was a slightly smaller move, so as you can see there are always good opportunities to trade this one indicator alone and make pretty good profits.
Therefore to answer my original question yes I believe you can make regular profits trading just one indicator, because I myself have done so in the past, but it makes far more sense to use additional indicators as well to confirm your positions, and to find additional positions to take.
My conclusion was that it would be extremely difficult, if not impossible, to make consistent profits, but then I remembered back to when I first started trading forex a few years ago, and realizing that back then I pretty much only used one indicator - the Exponential Moving Average / EMA (15), and did make consistent profits.
Technically speaking I didn't use only one indicator as I also displayed the EMA (50) and EMA (100) on the same chart to help me decide on exit strategies, and nowadays I use a lot more indicators to confirm my positions, but nevertheless I still think this basic approach of using an EMA (15) on a 30-minute chart could still generate regular profits.
The trick is to look for currencies that have been trending strongly in one direction for a few days with a rising or falling EMA (15), and wait until this EMA changes direction and signals a reversal.
Furthermore when this EMA does change direction you ideally want to enter into a position when the price is close to or touching this EMA for maximum value. Place stops about 20 or 25 points below this EMA in the rare instances where you get a false reversal, but in most cases the reversal will happen and you can potentially make 30-200 pips depending on the strength and momentum of the reversal.
Also, you ideally want to trade in the direction of the long-term trend, so let's take a real-life example – the GBP/USD.
The long-term yearly trend has been upwards so we ideally want to find positions where the EMA (15) has been heading downwards for a few days and watch for a change in direction, so we're trading in the direction of the long-term trend.
If you look at a 30 minute chart of this pair for this month (October), you can see three obvious instances of this happening.
The first instance was between 3/10 and 4/10 when the price fell from 2.0440 to 2.0280 before bouncing back and heading upwards again. The EMA (15) started heading upwards as well between 2.0310 and 2.0320 and there were plenty of opportunities to trade close to this EMA to get maximum value (sometimes the price blasts through the EMA without retracing, making it hard to get any value from the trade).
As you can see, this upwards trend continued until the price reached a peak of 2.4030 so you could potentially have made a profit of 100+ pips, but even if you'd held out until the EMA (15) started heading downwards which was confirmed around about the 2.3080 mark on 5/10, you could still have netted about 70 pips profit.
Similar set-ups occurred on 9/10 when there was another 100+ point reversal, and on 12/10 when there was a slightly smaller move, so as you can see there are always good opportunities to trade this one indicator alone and make pretty good profits.
Therefore to answer my original question yes I believe you can make regular profits trading just one indicator, because I myself have done so in the past, but it makes far more sense to use additional indicators as well to confirm your positions, and to find additional positions to take.
Best Currencies To Trade When Trading Forex?
When you first become interested in forex trading it can be difficult deciding which currency pairs you should be trading. Is it best to keep your eye on all of them or focus on just a few pairs?
Well there isn't really a right and wrong answer. A major factor is your own particular trading style. For example, if you have a very solid trading system based on technical analysis criteria, then you could watch all the currency pairs and wait for the right set-up to occur in any one of them in order to enter a trade.
Most pairs conform very well to technical analysis so this can be a very profitable method if you have a solid reliable trading system in place.
Another approach used by myself, and I would guess the majority of traders, is to only focus on the major currency pairs – GBP/USD, EUR/USD, USD/JPY and USD/CHF.
These are the most actively traded currencies so it makes sense to only trade these as they conform extremely well to technical analysis. This is because charts are essentially displaying human behaviour and with so many people across the world all looking at the same charts, you can start to understand where people are likely to enter and exit positions.
The major advantage of this method is that these pairs generally have the tightest spreads which is important because over the longer term these wider spreads can really make a dent in your profits.
Another benefit of only watching these pairs is that by concentrating on a fewer number of pairs you can learn the personality of each one and learn how they move, making it easier to identify trends and take a position.
Finally, one other factor is your location and the time of the day when you are available to trade. For example, if you can trade the forex markets between 7.00 GMT and 17.00 GMT, then the GBP/USD or EUR/USD would be a good volatile pair to trade as this is when the London and European markets are open and at their most busiest.
So to sum up, there are not really any best currencies to trade, all can be very profitable. However you should take the tightness of the spreads into consideration and the behaviour of each currency pair, which is why I generally recommend trading just one or more of the four major currency pairs - GBP/USD, EUR/USD, USD/JPY and USD/CHF.
Well there isn't really a right and wrong answer. A major factor is your own particular trading style. For example, if you have a very solid trading system based on technical analysis criteria, then you could watch all the currency pairs and wait for the right set-up to occur in any one of them in order to enter a trade.
Most pairs conform very well to technical analysis so this can be a very profitable method if you have a solid reliable trading system in place.
Another approach used by myself, and I would guess the majority of traders, is to only focus on the major currency pairs – GBP/USD, EUR/USD, USD/JPY and USD/CHF.
These are the most actively traded currencies so it makes sense to only trade these as they conform extremely well to technical analysis. This is because charts are essentially displaying human behaviour and with so many people across the world all looking at the same charts, you can start to understand where people are likely to enter and exit positions.
The major advantage of this method is that these pairs generally have the tightest spreads which is important because over the longer term these wider spreads can really make a dent in your profits.
Another benefit of only watching these pairs is that by concentrating on a fewer number of pairs you can learn the personality of each one and learn how they move, making it easier to identify trends and take a position.
Finally, one other factor is your location and the time of the day when you are available to trade. For example, if you can trade the forex markets between 7.00 GMT and 17.00 GMT, then the GBP/USD or EUR/USD would be a good volatile pair to trade as this is when the London and European markets are open and at their most busiest.
So to sum up, there are not really any best currencies to trade, all can be very profitable. However you should take the tightness of the spreads into consideration and the behaviour of each currency pair, which is why I generally recommend trading just one or more of the four major currency pairs - GBP/USD, EUR/USD, USD/JPY and USD/CHF.
How Do Forex Markets Move?
If you want to successfully trade the various forex currencies, you need to have a basic understanding of how forex markets move because they all follow similar patterns.
The best way of demonstrating this is by looking at long-term charts of various currency pairs. Let's take the GBP/USD as an example.
If you look at the 30 year weekly chart and draw an EMA (100) to show the trend, you will notice that apart from a few periods of sideways movement, the pair is nearly always trending upwards or downwards, and often for long periods of time.
For example, between 1981 and 1985 there was a long sustained downward trend where the price went from about 2.4500 to around 1.0400.
Similarly it then rebounded and trended upwards reaching it's peak in 1992, and if we look closer towards the present time we can see that the GBP/USD has been trending upwards since 2002.
So the point I want to make is that the forex markets generally move in trends (short-term and long-term), so by identifying these trends you know you should only be trading with the trend and not fighting against it. Your decision therefore is when to enter, and not which direction you should be trading.
Also, although there are clearly defined trends, prices do not move in a straight line. You will notice that price patterns move in waves and there are always retracements along the way. You ideally want to long pairs at the bottom of a wave and sell at the top, and vice versa, but it's obviously easier said than done.
However, the best way is to use technical analysis for confirmation of a new wave upwards or downwards.
For example if there's a strong uptrend, and you see a sharp sell-off, and then a new move upwards, a good entry point would be when the price starts moving upwards again after the sell-off and technical analysis confirms the uptrend is still intact.
An example of this would be in 2005 when the GBP/USD was heavily sold off going from around 1.9500 to just over 1.7000. We can see that after crossing below the EMA (100), it crossed back above it at just under 1.8000 in 2006 and continued to rise, so this would have been a good entry point (and as it turns out a highly profitable one as well as it's continued upwards ever since).
So to sum up, the simplest way of trading is simply to identify the trend and trade in the direction of this trend because forex markets are nearly always trending upwards or downwards. This way your only decision is when to enter, and you can use technical analysis to determine this.
The best way of demonstrating this is by looking at long-term charts of various currency pairs. Let's take the GBP/USD as an example.
If you look at the 30 year weekly chart and draw an EMA (100) to show the trend, you will notice that apart from a few periods of sideways movement, the pair is nearly always trending upwards or downwards, and often for long periods of time.
For example, between 1981 and 1985 there was a long sustained downward trend where the price went from about 2.4500 to around 1.0400.
Similarly it then rebounded and trended upwards reaching it's peak in 1992, and if we look closer towards the present time we can see that the GBP/USD has been trending upwards since 2002.
So the point I want to make is that the forex markets generally move in trends (short-term and long-term), so by identifying these trends you know you should only be trading with the trend and not fighting against it. Your decision therefore is when to enter, and not which direction you should be trading.
Also, although there are clearly defined trends, prices do not move in a straight line. You will notice that price patterns move in waves and there are always retracements along the way. You ideally want to long pairs at the bottom of a wave and sell at the top, and vice versa, but it's obviously easier said than done.
However, the best way is to use technical analysis for confirmation of a new wave upwards or downwards.
For example if there's a strong uptrend, and you see a sharp sell-off, and then a new move upwards, a good entry point would be when the price starts moving upwards again after the sell-off and technical analysis confirms the uptrend is still intact.
An example of this would be in 2005 when the GBP/USD was heavily sold off going from around 1.9500 to just over 1.7000. We can see that after crossing below the EMA (100), it crossed back above it at just under 1.8000 in 2006 and continued to rise, so this would have been a good entry point (and as it turns out a highly profitable one as well as it's continued upwards ever since).
So to sum up, the simplest way of trading is simply to identify the trend and trade in the direction of this trend because forex markets are nearly always trending upwards or downwards. This way your only decision is when to enter, and you can use technical analysis to determine this.
Is It Wise To Trade The Economic Data Releases?
If you trade the forex markets you will know that there are important market-moving economic data releases almost every day.
There will often be US-related data releases between 8.30 and 10.00 (US time) which can have a major effect on the dollar pairs and if you trade other currencies, then you also need to pay attention to specific news from that country. For example, you need to keep an eye out for UK-related news if trading one of the pound pairs.
When trading forex you always need to be aware of what news releases are scheduled for each day, but is it possible to actually make consistent profits trading off the back of the news itself?
Well in my opinion it is not possible to make sustainable profits trading these economic data releases simply because any subsequent movements after the announcements are often highly volatile and highly unpredictable.
They are basically open to interpretation, and any subsequent movements are based on traders' initial reactions to the news, which in itself can be unpredictable.
Sometimes you will find that straight after a news announcement, the market will move strongly in one direction or the other. This can either continue, or completely retrace and head in the opposite direction, making it impossible to trade.
This is because there is often a knee-jerk reaction to the news, and then a subsequent move a few minutes later once traders have fully digested the figures.
You will sometimes find that seemingly good news for the dollar, for example, will see a surprise sell-off and vice versa. It's all about traders' perception of the news and is basically too unpredictable to trade with any confidence so my advice would be to stay away from the economic data releases, because there are plenty of easier ways to profit from the forex markets.
There will often be US-related data releases between 8.30 and 10.00 (US time) which can have a major effect on the dollar pairs and if you trade other currencies, then you also need to pay attention to specific news from that country. For example, you need to keep an eye out for UK-related news if trading one of the pound pairs.
When trading forex you always need to be aware of what news releases are scheduled for each day, but is it possible to actually make consistent profits trading off the back of the news itself?
Well in my opinion it is not possible to make sustainable profits trading these economic data releases simply because any subsequent movements after the announcements are often highly volatile and highly unpredictable.
They are basically open to interpretation, and any subsequent movements are based on traders' initial reactions to the news, which in itself can be unpredictable.
Sometimes you will find that straight after a news announcement, the market will move strongly in one direction or the other. This can either continue, or completely retrace and head in the opposite direction, making it impossible to trade.
This is because there is often a knee-jerk reaction to the news, and then a subsequent move a few minutes later once traders have fully digested the figures.
You will sometimes find that seemingly good news for the dollar, for example, will see a surprise sell-off and vice versa. It's all about traders' perception of the news and is basically too unpredictable to trade with any confidence so my advice would be to stay away from the economic data releases, because there are plenty of easier ways to profit from the forex markets.
Successful Forex Trading Is All About Probabilities
When you first start to trade forex, it's very easy to test out a technical indicator or two and then apply it to your first few trades, or even just trade based on your gut feelings, but if you are serious about becoming a long-term successful trader then you need a well-thought out strategy.
A good forex trading strategy is one where the probabilities are in your favour for every single trade you make.
For example, I don't believe in entering a position where one single technical indicator provides a good signal, but instead rely on several indicators to all indicate either a buy signal or a sell signal in order to enter a trade with confidence.
I also use different time frames as well to show the overall trend. For example, if I'm analyzing a 5-minute chart and all my indicators indicate a buy signal, then I will check the 30-minute chart as well to make sure that we're not in an overbought position or that we are in a strong downwards trend.
To demonstrate with a real-life example, the GBP/USD signalled an outstanding sell signal at around 11.45 this morning (UK time) where all of the signals I use were signalling that a downward move was imminent.
The 10, 50 and 100 EMA's were all trending downwards, the supertrend was currently red, and the MACD was crossing over on both charts. Now I was just waiting to see if the support level on the 5 minute chart of 2.0747, indicated by the parabolic SAR, was going to break before entering.
As it turned out, it did break downwards and I immediately entered my position to go short, and it subsequently dropped 150 points (although I banked a lot less than that )
As you can see in this instance all my signals were indicating a downwards breakout, and therefore providing it breached this support level, this was a classic example of a high probability trade.
So always try and create a trading system that will provide you with high probability trading positions as this is the key to making long-term profits from forex trading.
A good forex trading strategy is one where the probabilities are in your favour for every single trade you make.
For example, I don't believe in entering a position where one single technical indicator provides a good signal, but instead rely on several indicators to all indicate either a buy signal or a sell signal in order to enter a trade with confidence.
I also use different time frames as well to show the overall trend. For example, if I'm analyzing a 5-minute chart and all my indicators indicate a buy signal, then I will check the 30-minute chart as well to make sure that we're not in an overbought position or that we are in a strong downwards trend.
To demonstrate with a real-life example, the GBP/USD signalled an outstanding sell signal at around 11.45 this morning (UK time) where all of the signals I use were signalling that a downward move was imminent.
The 10, 50 and 100 EMA's were all trending downwards, the supertrend was currently red, and the MACD was crossing over on both charts. Now I was just waiting to see if the support level on the 5 minute chart of 2.0747, indicated by the parabolic SAR, was going to break before entering.
As it turned out, it did break downwards and I immediately entered my position to go short, and it subsequently dropped 150 points (although I banked a lot less than that )
As you can see in this instance all my signals were indicating a downwards breakout, and therefore providing it breached this support level, this was a classic example of a high probability trade.
So always try and create a trading system that will provide you with high probability trading positions as this is the key to making long-term profits from forex trading.
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