Currency traders can eliminate considerable risk and take more statistically high-probability trades by trading exclusively with the trend and avoiding countertrend trades, writes Richard Krivo of DailyFX.com.
Whenever currency pairs begin strong trending moves, traders will ask about the merits of the trading adages “Trade in the direction of the trend” and “The trend is your friend.” What does the trend have to offer? Why not trade against the trend as well as with the trend and make pips going both ways?
While pips can be made trading countertrend, they will definitely come with a greater amount of risk. Essentially, when taking trades in the direction of the trend, the trader has the momentum, or the “push” of the market behind their trade. Since a trading objective is to lessen risk, one way we can do that is to eliminate trades that are against the prevailing trend.
When trading countertrend, there is less momentum pushing in that direction. As such, the dominant trend can kick back in at any time, quickly negating some or all the profits that may have been earned by trading against the trend.
Also, when a trader knows that they essentially have the market behind their trade when trading with the trend, they have more confidence to stick with the trade and let it mature, as opposed to closing out the trade too early.
Lastly, countertrend entries need to be much more precise since you are trying to time an entry while it is moving in the opposite direction that the market has been taking the pair over time. Conversely, when you have the market behind your trade, entries with the trend can be much more forgiving.
Let’s take a more in-depth look at this concept using a historical daily chart of the USD/CHF as our example.
Click to Enlarge
The approximate number of pips in each move to the downside (in the direction of the trend) is shown in green. The approximate number of pips in each move to the upside (against the trend) is shown in red.
While we can definitely see that pips can be made trading countertrend—4,070 pips in this example— there is a very significant difference in the number of pips earned by the trader who only took trades in the direction of the trend.
Based on this example, trading with the trend would have accumulated 3,685 more pips—roughly 47% more, and with less risk—than a trader who only took countertrend trades.
If you want to maximize your profits in forex trading, trade with the trend.
By Richard Krivo of DailyFX.com
