Swing Trading in the Forex Market

04/23/2014 9:00 am EST

Focus: FOREX

James Stanley

Trading Instructor, DailyFX Education

Of all of the different ways that traders can approach speculation in the markets, swing trading has to be one of the more interesting, writes James Stanley of DailyFX.com.

Scalping or day-trading is largely dependent on momentum. Longer-term trading is generally dependent on data flow or macro-economic events. But swing traders generally have a plethora of opportunities, whether markets are in long-term trends or not.

We discussed this style of trading with recommendations for time frames to utilize and entry protocols in the article, A Full Trading Plan in Four Hours. In this article, we're going to take a closer look at the types of price action events that will often take place at these swings, giving the trader the opportunity to implement a strong risk-reward ratio on the entry of the trade.

The Benefit of Price Action as an Indicator
New traders will often ask "what drove that move in EUR/USD?" Or "Why did sterling go down?" And if you look hard enough, you can almost always find a reason. Most of the financial media makes a living on the explanation behind those reasons. But the fact of the matter is that this hindsight type of analysis is really simply after the fact; but rarely relevant before hand. And as traders, we need to be in the position before the "reasons" take place, so this type of hindsight is relatively worthless.

Almost every price movement in market can be boiled down to once simple factor: supply and demand; that's it.

If there are more buyers than sellers, then price will go up. And if there are more sellers than buyers, price will go down. This relationship is exactly why markets work. Prices reflect what the market is willing to pay.

Changes in Supply and Demand Create Price Movements

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Created with Marketscope/Trading Station II; prepared by James Stanley
Click to Enlarge

This is why technical analysis can be so valuable: It can strip out the whys and focuses on the what.

One of the downsides of technical analysis is that most indicators are lagging the market, so it just obscures traders from the current supply/demand impact on the market; and this is why price action can be so incredibly valuable.

Price action, or the study of analyzing price and price alone in a trader's analysis is one of the most pure ways of performing technical analysis because it does not include any indicators that are lagging the market

Using Price Action to Catch Swings
Because price action is giving traders a direct view of the supply and demand in a market at a given point in time, traders can potentially get an early indication that a swing or reversal in prices may be near.

When markets display indecision, this is showing that supply and demand is roughly equal at that moment in time. This will often show as a series of candlestick formations such as the doji  or spinning top formation.

Indecision Formations Highlight Potential Turning Points

chart
Click to Enlarge

But this indecision may take a while to play out before prices actually reverse in the other direction. In many cases, multiple spinning tops or dojis can show up before prices actually reverse. But the benefit of this prolonged period of indecision is that it highlights to traders that the supply or demand in that pair may be at a turning point.

Perhaps most importantly with indecision and swing-trading formations, traders can look for strong risk-reward ratios in an effort to avoid the top trading mistake of losing so much when wrong; and making so little when correct.

By James Stanley, Trading Instructor, DailyFX.com

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