3 Ways to Trade a Strong Forex Trend
07/11/2013 9:00 am EST
Many traders follow a simple forex strategy called trend trading, notes Jeremy Wagner of DailyFX Education, and he shares three ways to enter trades in the direction of a strong forex trend.
With unconventional methods of economic stimulus becoming more conventional recently, strong trends have developed in the valuation of currencies. One common forex strategy utilized is a trend following strategy.
There are three ways to identify trading opportunities into the direction of a strong trend.
- Buy the dips, sell the rallies
- Breakouts into new highs or lows
- Diversify with currency baskets
A common forex strategy is to buy low and sell high. This type of strategy is generally sought out by many newer traders. More experienced traders will also buy dips and sell rallies, too, but they bring a filter with an edge to this strategy. More experienced traders filter signals with a strong trend. You see, many traders utilize indicators and oscillators to help them determine when currency pairs have become oversold so they can buy low. On the other hand, traders look for overbought levels on the oscillator to aid them in deciding when to sell. The signals on oscillators are generally straightforward and easy to read. However, one trading tip we offer in our forex courses is to filter your signals in the direction of the trend.
A breakout strategy is technically the opposite of buying dips in a rally. In a breakout, wait for the price to move higher, and then buy at a higher price than you would have when buying dips. This begs the question, why somebody would want to do this?
The reason is because the market is made up of emotions. There are times when the prices don’t seem rational, which is how bubbles develop. Breakout trading simply looks to play on those emotions because the reason prices are moving higher may not be rooted in fundamentals, but that traders are getting greedy and buying with all they have. Several famous traders like the Turtle traders used a breakout strategy.
Therefore, the advantage a breakout strategy has is confirmation. You get entered into the buying position only when prices have confirmed they are ready to trade at new highs. Therefore, if the confirmation doesn’t come and if prices do not trade to new highs, then you have been kept away from a losing trade.
A currency basket is a collection of currency pairs traded where the sole purpose is to highlight a specific currency’s move. For example, if you felt the US dollar was going to gain strength and wanted to buy a US dollar basket, you might look to place the following trades:
One advantage of basket trading is diversification since exchange rates are quoted as currency pairs, but wrong on the trade. For example, let’s assume you decide to trade the USD/JPY because of US dollar strength. If the JPY gains more strength than the USD, then you would have been right about US dollar strength, but wrong on the trade simply due to the other currency you matched it up against.
On the other hand, if you diversify the trade as a basket, then you are boiling the trade down to a US dollar move. Forex trends can last a while, so a powerful basket approach can be a less stressful way to trade these trends.
By Jeremy Wagner, Head Trading Instructor, DailyFX Education