Some persons believe that forex trading is gambling. They say that just as one relies on luck and skill at betting and the casino, that is the same way with forex trading.
Forex traders who are dependent on luck are gambling their money away and will end up in the pits of debt. But professional forex traders are not gamblers. Instead, they treat forex trading as a business by having a trading strategy.
A forex trading strategy is a system or set of systems a forex trader uses to give signals for the appropriate time to buy or sell a currency pair. Forex trading strategies depend on technical analysis with the support of indicators or fundamental analysis based on news events.
A good forex trading strategy also includes sound risk management rules that help traders analyze the market and execute trades confidently. Trading signals for a given strategy could be generated manually or automatically. Manually-generated signals involve the trader looking at the charts and indicators or reading the news for cues before deciding on a buy or sell decision.
For example, in forex trading, a buy decision is going long, and a sell decision is going short. Automatically generated signals involve programs configured with trading strategies that make decisions on behalf of the trader. The personality of a trader is an essential consideration in a manually-generated system. For example, the trader would want to consider whether he has the time required for the strategy and whether it gives an adequate frequency of trading opportunities that fit his financial goals. I will highlight eight broad categories of forex strategies and some examples prominent among traders.
8 Broad Forex Strategies and Their Examples.
Price Action Strategy
The price action trading strategy involves studying the movement of a currency pair and plotting it over time. Then signals are deducted from the movements. Pure price action traders depend only on the charts and do not use indicators. In contrast, other price action traders use indicators to confirm what they believe about the signal from price movements.
Price action is one of the basic strategies traders have been using in financial markets, and its pundits will tell you that it has stood the test of time because the Japanese were using it as rice traders in the 18th century.
A notable drawback in using price action trading strategies is that it is highly subjective. Two traders can be looking at the same chart and arrive at opposite conclusions about the signals. It is worthy to note that traders can implement price action strategies in other strategies such as swing trading, day trading, and scalping.
An example of a good price action strategy is the pin bar strategy. The pin bar is a price action strategy that depends on Japanese candlesticks. It is a candle with a long wick. When found on the charts, that means the market has rejected a particular price. Price action traders will interpret the pin bar as a signal that the market wants to move the price in the opposite direction.
Range Trading Strategies
Traders implement range trading strategies when a band of fluctuating high and low prices influences currency pairs. The low prices are called support levels and the high prices resistance levels.
Range traders usually use indicators like the Relative Strength Index (RSI) and stochastics indicator. The indicators are to help them identify the support and resistance levels. Range trading strategies require a lot of time resources, including patience, and they are said to be high-risk high rewards opportunities.
A trader could use an RSI for a currency pair in a range after identifying two support and resistance levels. He then looks out for overbought and oversold points in the RSI. When the price goes to an oversold level, he goes long (or buys) on the currency pair, but when the RSI indicates an overbought level, he goes short (or sells) on the currency pair.
Trend Trading Strategy
A trend is a consistent upward or downward movement in price. Trend trading strategies involve analyzing trend direction and trading with the trend with the expectation that it will continue long-term. When the trend is upwards, traders go long or buy, and when downwards, they go short or sell.
Trend trading can be profitable, especially for pairs that consistently trend. As a result, many traders use indicators and trendlines to analyze currency pairs and deduce trending.
One disadvantage of trend trading strategies is that they take a long time to spot a trend. This is because a majority of the pairs are usually trading in a range.
Many trend traders use the trendline strategy. When a currency pair moves upwards, traders draw a trendline and then go long by buying the currency if the trendline gives a long signal and continues long until the trend dies. Vice versa if the trend is going southward using the trendline as the indicator. They short or sell and hold onto their position until the indicator shows a tendency for the price to move in the opposite direction.
Position Trading Strategy
Position trading strategies are long-term trading strategies. A trader could hold a trade for days, weeks, months, or even years. Good knowledge of fundamental analysis is necessary to use this strategy. Position traders do not concern themselves with short-term price movements but look for longer-term trends.
To successfully implement this strategy, a trader needs to have patience and good comprehension of technical and fundamental analysis.
A good position trading strategy is a breakout trading strategy. Using this strategy, traders open positions when a trend is just developing. They buy when they notice the price has broken against a resistance level and sell when it has breached a support level.
This strategy entails a good understanding of support and resistance levels.
Day Trading Strategy
Day trading strategies are prevalent. They involve buying and selling currency pairs the same day to profit from price movements and market inefficiencies.
To be a successful day trader, one has to invest a lot of time watching the charts, except while using an automated system. Day traders make use of indicators a lot, and they also follow the financial news. Therefore, one needs to be self-disciplined and objective in this area.
An excellent example of day trading is a strategy of following the trend. Trend followers buy when prices are on the rise and sell when they see the price dropping.
Forex Scalping Strategy
Forex scalping is a short-term trading strategy where the trader makes a profit from small price movements., Buying and selling currency pairs involves very short periods, which could be a few seconds or minutes. Then, the trader repeats the process when price fluctuations occur. Traders who use forex scalping strategies are called scalpers, and the act is called scalping. Like day trading, scalpers have to invest a lot of time watching the charts, need self-discipline and a good understanding of technical analysis. Forex scalping is a type of arbitrage tradingg.
One good strategy scalpers use involves choosing pairs with the lowest spreads and high liquidity. Then, scalpers make a profit from price fluctuations in these pairs.
Swing Trading Strategies
Swing trading strategies depend on peaks and dips in the momentum of the price. Traders hope to profit when they recognize this signal. Swing traders rely a lot on identifying the trend. They can hold a trade for days or weeks.
Swing traders use technical analysis a lot but do not have to be staring at the charts for hours like day traders and do not hold a position for months like position traders. A swing trader needs a lot of patience and must be ready to profit from the high number of trading opportunities in a given day.
A good example of a swing trading strategy is the Bollinger band trading strategy. It consists of three bands produced from simple moving averages (SMA). When markets are volatile, the bands expand, and when volatility decreases, the bands contract. A currency pair is said to be in an uptrend when the price follows the upper band and a downtrend when it is following the lower band.
Carry Trade Strategy
Carry trade strategies involve borrowing from a currency with a low interest rate and using the amount to purchase a currency with a higher-yielding interest rate.
This type of trading can be substantial if the trader uses a high amount of leverage. This has made carry trade strategies one of the most popular strategies among forex traders. The carry trade strategy also has high risk because these trades are often over-crowded and highly leveraged.
If, for example, the Pound (GBP) has a 5% interest rate and the U.S dollar (USD) is having a 2% interest rate, one would need to go long or buy the GBP/USD. While the trade holds, the broker will pay the trader the interest rate differential, which is 3%. With time this can become a considerable amount.
What Is The Best Strategy?
Beginners to trading ask this question a lot – What is the best strategy? They want a method that wins 100 percent of the time. I will admit to you that the best strategy doesn’t exist. There are several good ones, but none can have a 100 percent winning rate.
Good traders have realized that trading is not about winning but about money management and discipline. When you have these latter qualities, the strategy will fall into place. Some strategies have a winning rate of 60 percent but whether a trader can make money depends on how he approaches trading. Having the wrong mindset and allowing greed to overcome one will undoubtedly lead to failures in trading.
So, let me reiterate that you don't need a 100 percent winning strategy. Stop looking for it. Concentrate on cultivating good money management and discipline. Also, learn how to control your emotions.