THE LOGIC BEHIND TRADING BREAKOUTS

Trading breakouts is one of the most versatile trading methods that remain effective regardless of the Forex market. This is a tool that is ideally suited for novices and is popular among veterans as well. Although it is seen as a simple way of trading it is imperative that traders understand the logic behind trading breakouts. The logic behind trading breakouts is simple and thus easier to trade with discipline while implementing trading plans. The strength of trading breakouts is that traders tend to have more faith in it as they understand what it entails and how it works. It is this firm foundation that allows traders to overcome losing streaks even in a series and make profits in the longer run.

Recognizing Breakouts

Trading breakouts is a concept that has been around for a long time. Today we see some of the most successful traders using this method of trading. Basically a breakout is the point at which a market price moves out of a trading range or breaks away. The trading range can be spread over any period of time and a breakout occurs when the prices exceed the limits of the range. The uptrend after a breakout is a trader’s dream as they tend to yield the best profits.

How It Works

The generally accepted principle of trading is to buy low and sell high in order to make a profit. This is a sound principle in theory although this differs slightly when it comes to trading in markets. Here, the logic of breakouts dictate that in order to make profits you have to wither ‘buy high and sell higher’ in a bull market or ‘sell low and buy back lower’ in a bear market. With this logic you can understand how difficult it is to make money the traditional way in any market.

In trading breakouts, trading capital is made to work harder for the trader who aims to lock into trends and hold them. What happens in markets is that they have very little movement over long periods of time and this can effectively tie up money over longer periods of time. Trading breakouts is different as you are only entering a trend in motion which is more likely to continue in the same vein than reverse. The bottom line is that since the markets are trending and have a high probability of continuing in the same direction, there is a better shot at making profits.

MULTIPLE TIME FRAME ANALYSIS

Multiple time frame analysis is a form of technical analysis which requires the

traders to look at the different price changes of the same currency pair. Typically the charts are in different time frames and will allow the trader to better understand how the currency options moves with changing market conditions. Through multiple time frame analysis, traders can effectively enter positions.

In most cases, only 3 time frames are used , weekly, daily and 4-hour charts but traders may also decide to utilize shorter time frames (4-hour, 1-hour and 15 minutes). Generally, the longer time framed charts are used to get an overview of how the market is behaving while the shorter time frames are utilized to fine tune the entry and exit points. It is important for the traders to capture the big movements in the market in order to make a huge sum of profit. In this case, the traders will need to know which direction they should take and what kinds of shorter term movement they can take advantage of. Multiple time frame analysis is more than just picking out the tops and bottoms; instead, it is about looking for buying opportunities in an uptrend and selling opportunities in a downtrend which enables the trader to profit more.

Traders in the spot market typically use daily charts to identify the general trend while hourly charts determine the exact entry points. In the AUD/USD currency pair which has been trending up since the early 2002, range traders will find it difficult to trade, and will probably experience losses if they stick to the same strategies they use in normal situations. Even when certain dips in the market, the pair remained strong for the last couple of years, hence presenting very little opportunities even for medium term range traders.

In this case, it is best to adopt a position which follows the trends and to look for buying opportunities when the prices are lowest. In this case, the trader can use a level of the Fibonacci retracement as the main support level then use the daily charts to get a general idea of the direction of the trade and then hourly charts to pinpoint entry points.

The good thing about multiple time frame analysis is that it can be used even for hourly trading with leverage. For example, in a highly volatile currency pair such as the CHF/JPY, the trader can use hourly charts to gauge the direction of the trend and 15 minute charts in looking for entry points in the direction of the trend. To increase the success, it is important to use different indicators to ensure that the currency is trending in a particular direction.

HOW TO HEDGE YOUR FOREX TRADING RIGHT

Hedging is about protecting your market position from an unanticipated or unwanted price fluctuation in the market. All market goes up and down and depending on the market position undertaken by you, you need to protect yourself from both ends of the possible price swing. In other words, hedging represents a form of insurance for your investment. Of course hedging is not as simple as paying an insurance premium and getting the protection that you need. In forex trading, this involves a more complex forex strategy where you cover both sides of your market position.

Forex traders after entering a trade protect their existing market position from an unforeseen fluctuation using certain financial instruments called derivatives. The main methods that forex traders can hedge their market position are either with ‘Spot Contracts’ or ‘Forex Options’. Spots contracts are in essence the normal type of trade that are made by the average retail forex trader. They have a delivery date of just two days and are not entirely effective as a hedge instrument. In fact, the reason why a hedge is needed is because of the very nature of the regular spot contracts.

The more popular mode of hedging used by currency traders is actually forex options. Like the options used for other types of financial instruments, with forex options, a holder of the option is given the ‘rights’ but not the ‘obligations’ to buy and sell a currency pair at a predetermined price in a specified future date. Thus, traders can use common options strategies like bull or bear, spreads, straddles and strangles to protect their investments and limit their potential losses.

A forex hedging strategy comprises of four (4) parts. These include risk analysis, risk tolerance, determination of specific hedging strategy to be adopted and the implementation and monitoring of the strategy. The analysis of risk refers to the kind of risk that the trader is undertaking in his current or proposed market position. Then he must weigh the consequences of taking this risk without any hedging protection to see if it is low or high in the current market situation.

With respect to risk tolerance, the trader determine for himself the extent of the risk that he is willing to shoulder and how much of the risk will be hedged. There is no situation in forex trading that is completely risk free and it is totally dependent on the trader to decide how much he is willing to pay to protect himself.

Once the trader has decided the level of his risk tolerance, the next step involves him determining specifically which hedging strategy is most cost effective for his situation and adopts that strategy for his market position. The last step is just to implement the selected strategy and constantly monitor the progress of the trade to ensure that the strategy adopted is working as it should be. The currency market is a dynamic and volatile market. And as with all financial markets, it is also a risky market. Having a hedging strategy in place is a prudent move in minimizing risks and is an extremely essential part of forex trading. 

PROFIT YIELDING STRATEGIES: APPLYING THE 80/20 RULE

The implication of the 80/20 rule in the realm of forex trading is that you should focus more on high quality trades that pay off handsomely rather than trading more frequently. This is actually one of the most common errors that most novice traders make when they are starting out to trade online (too much trading). They will go for day trading, hedging and scalping for low odds trades which result in more losses than gains.  

This mentality is due to the way we were educated and brought up to think in the sense that the harder you work, the more you will stand to gain. Unfortunately, the illusion of hard work doesn’t pay off when we are dealing with forex trading. The market is always changing and our flawed ingrained philosophy cannot cope with the dynamics of the financial markets. We need to adopt a paradigm shift in the way we think if we ever hope to profit from trading forex. This is the main reason why we get the forex veterans making most of the money in online forex trading. Research and surveys have proven such is the case.

Professional or experienced forex traders on the other hand tend to go for long term trades that pay off with high profitability. It is not uncommon to find these experienced traders making just a single trade once a week or even a month and still get a 100% return on their investment. The key toward profitability is to look for long term trades and learning how to use the forex charts properly to look for long term trends which could last for months.

Once you have identified such a long term trend pattern on your charts, stake your market position, hold on to the position and trail your stop loss to follow the long term trend. With the application of the 80/20 rule in your trading strategy, you will get to make more money, have less stress and also waste less time on unprofitable efforts.

DAY TRADING STRATEGIES FOR BEGINNERS

Day traders buy and sell currency pairs many times a day and therefore need a rigid and viable day trading strategy to trade successfully.

Introduction:

A day trader is a trader that buys and sells currencies many times a day and does not leave an overnight position. This means that a day trader usually trades within one time zone and does not cross into other time zones except maybe a trader in Europe where the afternoon session coincides with the American morning session. The concept of a day trader is to generate income on a daily basis using technical and fundamental analysis to facilitate this money making process.

Day trading Strategies for Beginners:

When starting out as a day trader a beginner needs to develop a simple trading strategy that enables the trader to have the opportunity to generate profits with a viable risk/reward ratio. To develop a strategy which meets these requirements the trader needs to learn about self-discipline, price charts, volume and price movements, technical analysis and fundamental analysis. In addition the day trader needs to learn about different candlestick chart patterns, volume movements and trend lines, all of which provide tools which enable the trader successfully day trade.

So the first pillar of a day trading strategy for a new forex trader is knowledge. The second pillar of a day trading strategy is an understanding of how the markets function. Elements such as when the highest volumes are traded, what type of economic data has the strongest impact on the market, what time frames are good for certain currency pairs, and the best time of day to trade?

The third pillar of a day trading strategy is to do with deciding how much loss you are comfortable with taking on individual trades. To do this you must establish the maximum loss you are willing to bear. This is something that must be done in advance and not on the fly as you trade. Before you actually make the trade you should decide on the risk/reward ratio for the trade and your loss limit. As soon as you reach your loss limit you should exit the trade. Never fall into the trap of not keeping to your strategy and stay in the trade hoping the market will turn. It invariably does not.

The next important pillar of a day trader’s strategy is the maintenance of documentation which record the day’s trades and the results of those trades. In this way you can gauge how effective your day trading strategy is and amend it accordingly. Documenting your daily trading will also enable you to repeat your successes.

The final pillar of your day trading strategy is hedging. Hedging is the act of selling and buying the same currency pair or the act of buying one currency pair and buying another currency pair which is historically inversely correlated to the original currency pair. Hedging in this way does not produce high profits but it does produce profits and reduces the likelihood of losses.

The above simple day trading strategy will enable day trading beginners to start a successful day trading career.

SETTING UP A PROFITABLE TRADING SYSTEM

Developing a trading system which is profitable depends on how well defined is your trading strategy and how successful you are at integrating your process into the system.

Introduction:

Unless you have a well defined forex trading strategy you cannot set up a profitable trading system. A trading system will only work successfully if all the components of your trading strategy are integrated into the system. If your strategy is not scrupulous in detail then your trading system rather than being a helpful tool will become a dangerous tool.

Setting Up a Profitable Trading System:

Having a profitable trading system enables a trader to be more successful in getting out of bad trades or keeping in a good trade. It is possible with the correct integration to have your trading system to have the optimum buy and sell triggers, entry points that offer the highest probability of big profits, and the ability to develop adhoc orders. Your trading system should also reflect the currency pairs you are comfortable trading in and the leverage that you consider the optimum you need. For example if you trade the EUR/USD you will need to decide if you are going to trade a 1:10, 1:50, 1:100 or 1:200 leverage and make sure these parameters are in your trading system. Also if you are trading in other currencies you should also make sure that your trading system has the parameters for these currency pairs embedded into the system. It is particularly important that your trading system has the optimum entry instructions for markets that are not trending but ranging in order that even in ranging markets there is a high probability of profits. 

In order to configure your trading software there are some key steps to complete.

1. You need to write down in detail your thought processes in coming to a decision to on your entry and exit points.

2. You should pre-define the currencies which you want to trade and write down the analysis on how you arrive at the currencies you want to trade, what type of trends you feel comfortable in following and how much leverage you want to use for each trade, as well as the where the trade should be entered and where it should be exited.

3. Take the time to chart all you executable steps that you will be inputting into the trading system. You will note that for each currency there will be repeatable steps to determine entry and exit points, or to adjusting leverage levels, or to adjust trailing stops. This is not unusual as the analysis you are doing is a trial and error approach which will be refined to achieve maximum profitability.

4. Once all the above has been recorded then the final step is to encode your trading system with the software you have chosen, into your trading platform.

5. Once you have encoded your system you should back test the first 10 or so trades using small amounts of capital so as not to wipe yourself out in the case your system has a major fault.