A forex trading strategy is a trading plan used by forex traders to guide them on when to open and close a trading position. This involves buying and selling currency pairs at different times and in different trading conditions.
Investing the time and effort into developing a solid trading strategy is the best investment you can make. It takes time and patience to develop the right one for you and thereafter, discipline to stick to it. A trading strategy is an essential component of forex trading and makes all the difference between large gains and losses.
What is a Forex trading strategy?
A trading strategy is personal to a trader’s circumstances and personality and is typically developed over a period of time.
Forex trading strategies are supplemented by fundamental and technical analysis. They’re made up of either manual or automated systems that incorporate trading signals that help you to monitor and execute trade orders.
Fundamental analysis looks at the forex market at a macro level. In other words, the effect of political, economic, and social forces and events. The theory is if a country is stable and economically sound, its currency will be strong. The opposite applies if a country is unstable and operates in a volatile macroenvironment.
Technical analysis focuses on the technicalities of currency price movements. It’s typically a visual representation of historical data and market trends, using charts. Traders study technical data supported by indicators to plan buy and sell orders and when to open and close positions.
The manual system of forex strategies involves traders sitting in front of their computer screens or mobile devices looking for trading signals which they use to decide whether to buy or sell currency pairs.
The automated system is where a trader uses the features of a trading platform to execute order trades, open and close positions, and monitor trading signals. The benefit of the automated system is it takes emotion out of the equation.
What trading strategy is best for the Forex market?
Many ‘copycat’ trading strategies have been developed over the years and there is no ‘best trading strategy for forex’. A solid strategy takes into consideration trading conditions and allows traders access to fundamental and technical analysis. The aim is to develop a trading strategy that’s right for you and allows you to confidently execute buy and sell orders, monitor price movements and manage the risks.
The forex market is inundated with off-the-shelf forex trading strategies which are available to purchase online. Find the right trading strategy for you and backtest it on your trading platform. MetaTrader 4 offers that functionality.
Let’s look at the Top 10 most popular trading strategies used around the world by retail forex traders.
Bladerunner Trading Strategy
The Bladerunner forex trading strategy allows traders to look at the disparity in price movements and helps them identify entry and exit points for each trade. The strategy involves comparing the current market price to what level the indicator says it should be.
The Bladerunner strategy is dependent on the market actually trending. It’s based on pure price action and combines analysis of candlesticks and pivot points to identify support and resistance levels to find new opportunities for trade positions.
Traders usually combine the Bladerunner forex strategy with Fibonacci levels. This helps to validate findings and provides extra trading security.
The Bladerunner methodology uses a 20-period exponential moving average (EMA) or the central line of the Bollinger band indicator. If the price is above the EMA, the trader takes it as a sign that it will decrease soon. If the price is below the EMA, it’s a sign that the price will increase in the near future.
The theory suggests that the price will rebound if the trader waits for the price action to reach the EMA. Traders open a position at this level in anticipation of the rebounding price. The signal candle is the first candlestick to touch the EMA and the confirmatory candle is the second candle that moves away from the EMA.
Bollinger Band Trading Strategy
A Bollinger Band trading strategy seeks to establish support and resistance levels in the forex market. If the forex market is highly volatile, the Bollinger bands widen. If the market is more stable, the space between the bands decreases.
The trading tool consists of three bands. The central line is a simple moving average (SMA) set to a 20-day period. The Upper and Lower lines measure the unpredictability on the market.
Traders watch the currency price and when it reaches the outer bands, it signals the market will likely rebound back towards the central 20-period moving average.
When the price moves outside of the Bollinger band, it’s a sign that the market will break out of its range. The price movement may be temporary and may eventually return to the direction it came from.
Bollinger bands are very useful because they act as an effective guide for Stop Loss and Stop Limit indicators. This is because the bands help traders establish entry and exit points for their trade positions.
Breakout Trading Strategy
The Breakout Trading trading strategy allows traders to identify market trends with the aim being to open a position as early as possible.
This popular trading strategy involves anticipating a price breakout. This is when the market price breaks out from a consolidation or trading range. A market price break out is when a support or resistance level has been met and surpassed.
Price breakouts typically occur at a historic support and resistance level. However, this can change depending on how strong or weak the market is in that time period. Traders should place their Stop Loss at the point where the market breaks out.
The Breakout Trading forex strategy is an important strategy because breakout indicators alert traders to the start of a volatile period. By waiting for the key level to break, a trader can enter the market just as the price makes a breakout and ride it until the unstable market stabilises.
Fibonacci Retracement Trading Strategy
The Fibonacci retracement trading strategy is a method of technical analysis used in finance to determine support and resistance levels. It’s named after its use of the Fibonacci sequence
The Fibonacci Sequence is the series of numbers: 0, 1, 1, 2, 3, 5, 8, 13, 21, 34 …
The next number is found by adding up the two numbers before it.
In mathematics, the Fibonacci numbers (commonly denoted as Fₙ) form a sequence called the Fibonacci sequence. The Fibonacci system denotes that each number is the sum of the two preceding ones, starting from 0 and 1. That is and for n > 1.
Fibonacci retracement levels use horizontal lines to represent where possible support and resistance levels reside. Each level is associated with a percentage which represent how much of a prior move the price has retraced.
The retracement levels are: 23.6%, 38.2%, 61.8% and 78.6%.
The unofficial Fibonacci ratio is typically 50%.
The Fibonacci indicator is popular among forex traders because it can be drawn between any two significant price points, either a high or a low point. The indicator then creates the levels of support and resistance between these two points.
Example of Fibonacci levels
The price rises to $10 and then drops to $2.36
It retraced 23.6%
Fibonacci retracement levels are drawn as 6 lines on an asset’s price chart.
The first 3 lines are drawn at the highest point (100%), the lowest point (0%) and the average (50%).
The remaining 3 lines are drawn at 61.8%, 38.2% and 23.6%. These are significant percentages in the Fibonacci sequence.
Forex traders analyse these 6 lines to spot where to place entry and exit orders. The challenge is to place the Stop Loss below the uptrend (previous swing low) or above the downtrend (previous swing high).
Fractals Indicator Trading Strategy
The Fractals Indicator trading strategy looks at a recurring pattern in the midst of large price movements and identifies reversal points in the market. The reversal points are found around key points of support and resistance.
Forex traders typically use the Fractal Indicator strategy to identify directional trends and is generally used as part of a wider forex strategy with other indicators.
The fractals pattern consists of 5 candlesticks and indicates where a price has struggled to move higher or lower. The pattern consists of a central bar that has a higher high or a lower low than the two bars on either side of it.
In an upward fractal, the trader focuses on the highest bar. In a downward fractal, the focus is on the lowest bar. A trader will open a position if the market moves beyond the high or low fractal signal.
Keltner Channel Trading Strategy
The Keltner Channel trading strategy is used to determine when a currency pair has veered too far off the moving average. It’s a very useful indicator to use in volatile trading conditions.
The indicator uses two boundary bands in much the same way at the Bollinger Band strategy. The two bands are created from two 10-day moving averages which lie either side of an exponential moving average (EMA).
The Keltner Channel bands are used to identify whether a currency is oversold or overbought. It does this by comparing the price relationship to each side of the channel. The strategy was developed off the theory that plotting the bands a certain distance away from the market price average allows a trader to identify a significant market move.
When the market moves through the boundary bands, it’s anticipated the market price will continue to move in the direction of the market trend.
MACD Trading Strategy
MACD trading strategy is used to identify the end of a market trend and find a new trend. MACD stands for Moving Average Convergence Divergence. The indicator itself appears at the bottom of the main price chart.
The MACD indicator consists of three markers: the MACD line, the signal line and the histogram.
These markers are used to plot the difference between two indicators tracking on a trend or moving averages.
When the two moving averages converge and diverge, traders pick up buy and sell signals for currencies. When the MACD line crosses above the signal line, it shows a forex trader it’s time to buy. When the signal line crosses above the MACD line, it’s time to sell.
Momentum Indicator Trading Strategy
The Momentum Indicator trading strategy is displayed as a single line, usually on a separate chart below the main price chart. The indicator marks the most recent closing price and compares it to the previous closing price.
The speed of the price movement is represented by how far the indicator line lies above or below 100. If the line is above 100, this signals to a trader that the market is moving quickly upwards. If the line is below 100, it signals the market is on a strong downtrend.
The Momentum Indicator forex strategy provides forex traders with reliable signals of whether a currency pair has been has be oversold or overbought. The Momentum indicator is useful to read the strength of the market and price movements, whether the price is moving up or down.
Moving Average Crossover Trading Strategy
The Moving Average Crossover trading strategy is one of the most popular guides available to identify a potential change in a market trend. The crossover indicator is based on the meeting point where two standard indicators cross over.
The MA Crossover strategy applies two different moving indicators; a fast EMA and a slow EMA. When the two cross over, the trader picks it up as a signal to open new trading positions.
When the fast EMA crosses over the slow EMA from below, a forex trader would enter into a long position. When the fast EMA crosses the slow EMA from above, the trader would enter a short position.
The MA Crossover forex strategy is used to guide a trader’s Stop Loss plan. A Stop Loss for a long position is typically placed at the lowest price point of the candlestick before the crossover occurred. The Stop Loss for a short position is placed at the highest price point of the candlestick before the crossover.
RSI Indicators Trading Strategy
RSI stands for relative strength Index. The RSI trading strategy is used widely by forex traders as a technical analysis indicator where it helps them gauge the momentum of the market trend and identify oversold and overbought assets.
The RSI consists of a single line and two levels that are set automatically. The indicator is plotted on a separate chart to the forex price chart.
The vertical axis goes from 0 to 100. It shows the current price against its previous values. When the price rises to 100, it represents an extremely strong upward trend. Anything above 70 is considered to be overbought.
When the price falls to 0, it represents an extremely strong continuous downtrend. Anything below 30 is considered oversold.
The theory behind the RSI forex strategy is a trader can take advantage of market retracement between the two price levels.
The indicator is generally used as part of a wider forex trading strategy to clarify entry and exit points. A trader has to be careful with the indicator because a sharp price movements can give off a false signal.
Forex Trading Africa Disclaimer
Trading foreign exchange on margin is risky. Forex trading is not suitable for all investors and traders and a high degree of leverage can result in significant financial losses. With forex trading, there is the possibility that you could sustain a loss of some or all of your initial investment.
Featured Writer on SA Shares, Forexsuggest and Forextrading.africa