There are multiple forex trading strategies traders can use, including technical or fundamental analysis. A good forex trading strategy allows a trader to analyze the market and confidently execute trades with sound risk management techniques. Every trader has its specified goals and criteria, which must be taken into account when formulating a strategy. This article will
Outline several trading strategies as well as the associated advantages and disadvantages to each.
Price Action Trading Strategy
Price action trading involves studying historical prices to help formulate technical trading strategies. Price action can be used as a stand-alone strategy or together with an indicator. Fundamentals are rarely used, however, it’s not unheard of to take into account economic events as a substantiating factor. In addition, price action trading can be used over long, medium and short term periods. Many traders value this strategy because of the ability to use multiple time frames for analysis. Within price action there is the position, scalping, swing, day, range and trend trading. These strategies adhere to different forms of trading requirements and attest to how diverse trading can be.
Price action trading is better suited for short – medium term limited profit trades rather than long term investments. Most traders believe that the market follows a random pattern and therefore there is no clear systematic way to define a strategy that will always work. However, by combining the technical analysis tools with the recent price history to identify trade opportunities based on the traders interpretation, price action trading has gained a lot of support in the trading world.
Range-Bound Trading Strategy
Range trading encompasses identifying resistance and support levels whereby traders will place trades around these key levels. This strategy works well in markets without significant volatility. With this strategy, technical analysis is the primary tool used. Range bound strategies work for any time frame, and therefore have no set length per trade. Traders capitalize on range-bound trading by repeatedly buying at the support trendline and selling at the resistance trendline until the security breaks out from a price channel. The idea is that the price is more likely to rebound from those levels then break through them. This is what out the risk-to-reward ratio in traders favor, although it is always important to watch for a potential breakout or breakdown.
What are the Pros and cons of Range-Bound Trading?
Some of the advantages of range-bound trading is the substantial number of trading opportunities as well as the favorable risk-reward ratio. Some of the cons however include lengthy periods of time investments and strong need for technical analysis.
Trend Trading Strategy
Trend trading is a simple forex strategy used by many traders with various experience levels. With a trend trading strategy, traders attempt to yield positive returns by exploiting a market’s directional momentum. In other words, trend trading strategies assume that an instrument will continue to move in the same direction as it’s currently trending. Such strategies often have a take profit or stop loss provision in order to lock in profit or avoid big losses if a trend reversal occurs.
Trend trading is the method of trading designed to take advantage of uptrends where the price tends to make new highs or downtrends where the price makes new lows. In addition to looking at highs and lows, trend traders often utilize other tools like trendlines, moving averages, and technical indicators to help identify trend direction and potentially provide trade signals. Trend trading usually occurs over the medium – long term time horizon as trends themselves fluctuate in length. Just like the price action strategy, multiple time frame analysis can be adopted in trend trading. Trend trading can be reasonably labor intensive with many variables to keep in mind.
There are various trend trading strategies, each using different indicators and price action methods. For all strategies, a stop loss should be used to manage risk. Trend traders will always be on the lookout for chart patterns such as flags or triangles, which indicate the potential continuation of a trend.
Position Trading Strategy
Position trading is a long term strategy mainly focused on fundamental factors, however, technical methods can be used as well. Within the strategy, smaller and more minor market fluctuations are not considered because they do not affect the border market picture. Position traders refers to individuals who hold investments for an extended period of time with the expectation that it will appreciate in value. Position traders are less concerned with short term fluctuations and daily news unless it impacts the long term view of their position.
By definition, position traders are trend followers. They strongly believe that once a trend begins, it is likely to continue. Key levels on longer time frame charts, such as weekly or monthly. Hold valuable information for position trades as a result of the comprehensive view of the market.
What are the Pros and Cons of Position Trading?
The main advantage of position trading is that there is not a strong demand for the traders time. Once the trade is made and safeguards have been put in place, it’s just a matter of time for the desired outcome. Another advantage is the highly positive risk-to-reward ratio. On the other hand the main disadvantages include very few trading opportunities as well as it entails a strong appreciation of technical and fundamental analysis. Furthermore, the main risk is that the minor fluctuations that a trader may have chosen to ignore can at times turn into a trend reversal. This can have a detrimental effect on trading accounts. Lastly, because their capital is tied up for a prolonged time, with position trading you could fall victim opportunity costs.
Day Trading Strategy
Day Trading is a strategy designed to trade financial instruments within the same trading day. Trade times range from very short-term, a matter of minutes or hours, to as long as the trade is opened and closed within the trading day. Using this strategy traders will look to enter positions when the price breaks through the EMA in the direction of the trend. Before pursuing this strategy, consider both the advantages and disadvantages. Day trading requires a lot of time and effort and doesn’t always pan out. It involves lengthy periods of time investment, as well as strong technical analysis skills. On the other hand, there are a substantial amount of trading opportunities and a median risk-to-reward ratio.
Forex Scalping Strategy
Scalping is a term used to describe the process of making small profits on a frequent basis, by opening and closing multiple positions throughout the day. This can be done using an algorithm or manually that relies on predefined guidelines as to when to enter and exit positions. Scalping entails short-term trades with minimal returns, usually operating on smaller time frame charts. Like most technical strategies, the first step is identifying the trend and many scalpers use indicators like the moving average to verify trends. One of the disadvantages to this strategy is the low risk-to-reward ratio, while one of the advantages are that it has the greatest number of trading opportunities in all forex strategies.
Swing Trading Strategies
Swing trading involves taking trades that last a couple of days up to a few months in order to profit from an anticipated price move. It is for the latter reason that swim trades are considered medium- term. This type of strategy exposes traders to overnight risk, where the price could open the following session at a substantially different price. Similarly to range-bound strategy, indicators can be used to select an optimal entry and exit positions as well as times. The only difference with swing trading is that it applies to both trending and range bound markets.
What are the Advantages and Disadvantages of Swing Trading?
The advantages of swing trading include the fact that it requires less time to trade than day trading and traders can rely exclusively on technical analysis simplifying the trading process. Furthermore, swing trading maximizes short term profit by capturing the bulk of market swings. Cons, however, include the fcat the positions are subject to overnight and weekend market risk. Moreover, with swing trading abrupt market reversals can result in substantial losses. Lastly, swing traders often miss longer-term trends in favor of short-term market moves.
Carry Trade Strategy
A currency carry-trade strategy is one whereby a high yielding currency funds the trade with a low yielding currency. In other words, carry trades include borrowing one currency at a lower rate, followed by investing in another currency at a higher-yielding rate. A trader using this strategy is attempting to capture the difference between the rates, which can often be substantial, depending on the amount of leverage used. This will ultimately result in a positive carry of the trade.
The carry trade is one of the most popular trading strategies in the forex market because the interest rate spread is usually quite high. The first step in putting together a carry trade is to find out which currency offers a high yield and which one offers a low yield. Carry trades are dependent on interest rate fluctuations between the associated currency. Therefore, length of trade supports medium to long-term. That being said, strong trending markets work best for carry trades since the strategy involves a lengthier time horizon. Confirmation of the trend should be the first step prior to placing the trade.
What are the Advantages and Disadvantages of Carry-Trade?
The big risk in carry-trade is the uncertainty of exchange rates. Carry trades are generally done with a lot of leverage, so a small movement in exchange rates can result in huge losses unless the position is hedged appropriately. Furthermore, carry trades only work when the markets are complacent or optimistic. Uncertainty, concern and fear can cause investors to unwind their carry trades. Lastly, since carry trades are often leveraged investments, the actual losses will be much greater.
When considering a trading strategy to pursue, there are many variables that traders take into account, as each trading strategy will appeal to different traders depending on personal attributes. Matching your trading personality with one of the appropriate strategies above will ultimately allow traders to take their first step in the right direction.