How to Fix a Flawed FX Strategy

05/13/2014 9:00 am EST

Focus: FOREX

Richard Krivo of DailyFX.com explains that when underperformance and lower profits are becoming more common, forex traders can adjust their time frame or "speed up" indicators in order to keep pace with fast-moving markets.

When markets are not trending as strongly as they once were, one need not abandon a former strategy entirely. Perhaps just some "tweaking" might be in order.

Let's say that a longer-term trader was using the daily chart to determine the trend, and their entry signal was based on a break of support or resistance on a lower time frame-the four-hour chart, for example. They can keep that same strategy but just shorten up the time frames to accommodate a market that is more volatile, moving more quickly, and trending over a shorter duration.

As the movement of the currency pairs becomes quicker, we can "speed up" our charts (drop to a lower time frame) so they will alert us in a more timely fashion when a move occurs. By so doing, a trader will receive entry signals sooner, permitting them to enter trades more quickly than they normally would using a longer-term strategy. (Keep in mind, however, that the "quicker" the entry signal, the more likely it becomes that a trader will enter a trade based on a "false entry" signal.)

For trend determination, a trader may shift to a lower time frame such as a six-hour or a four-hour chart instead of the daily. If their entry had been based on the four-hour chart, they may choose to drop to a one-hour or a 30-minute chart for the entry.

Even though the lower time frame is being used, the entry signal would remain the same: a break below support in a downtrend, or a break above resistance in an uptrend.

So the strategy essentially remains the same; you are just adjusting it to reflect the market conditions in play at the time.

In addition to changing chart time frames relative to the more volatile market conditions, a trader can also "speed up" any indicators that they may be using in their trading.

For example, instead of a 200-period simple moving average (SMA), they may shorten up the number of periods and drop to a 100- or 50-period SMA. By lessening the number of periods, the indicator will become more sensitive to recent price fluctuations.

Think of this tweaking of a strategy as almost like driving. When the driving conditions change, the basic "rules of the road" remain the same, but depending on the type of road conditions, you will "tweak" your driving technique accordingly.

For example, under normal driving conditions, if a driver follows the rule of leaving one car length between you and the car ahead for every 10 mph, in snow/ice/rain, they may adjust that driving rule and allow two or more car lengths to accommodate the riskier conditions.

Bottom line, as conditions change, whether in driving or trading, our actions need to adjust to reflect those changes.

By Richard Krivo, Trading Instructor, DailyFX.com

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