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Andy van Hassel February 22, 2022 Average reading time: 7 min

Forex trading strategies

The primary task confronting every forex trader is to accurately predict the markets; determine when to trade and whether to go long or sell short. For this reason, traders use a variety of strategies to generate their trading signals. Forex trading strategies are techniques used by traders to determine when and how to trade a currency pair. 

Forex signals are trading recommendations given for a particular forex pair, to be executed at a defined time and price. Though there are numerous free and paid signal services, many traders generate their signals after detailed market analysis.

Types of forex analysis 

Below are the common types of forex markets analysis: 

Fundamental analysis

This is the process of determining the intrinsic value of a currency by studying the political, social, and economic forces that drives its value. So, the trader is on the lookout for important data such as interest rates, news, inflation, Gross domestic product (GDP), etc. The whole idea is that if an economy is flourishing, politically stable, and attracting investors, its currency will strengthen. The trader compares the fundamentals of currencies in a pair and then predicts the exchange rate direction. 

Technical analysis

This analysis method is used by most traders and can be carried out on most trading platforms. It is a method used to forecast future price movements of a currency pair by studying its historical charts; identifying patterns and trends that have a high probability of repeating in the near future. Charts display the price action of a currency pair with time. Most trading platforms come with charting packages which include analytical tools, technical indicators, and other tools used for technical analysis. 

Sentiment analysis

This analytical method helps a trader to generate his trading signals by studying the emotional and psychological state of forex market traders. He looks at the market data, sees what other traders are doing, and then makes his decisions. For example, when he sees that 75% of traders are buying the EURUSD, he may decide to follow the crowd or go against them. 

Forex trading strategies

Almost every forex trading strategy was derived from technical or fundamental analysis principles. Sometimes, traders combine both methods to generate their trading signals. 

Below are some of the most popular trading strategies used by forex traders: 

Position trading 

This is a trading strategy used by forex traders who want to capture long-term price fluctuations in the markets. So, they maintain open positions for several weeks or even months. The strategy is used to identify an emerging trend, enter a trade position and wait for weeks for the price to peak before it is closed. 

Often, the trader needs a combination of fundamental and technical analysis principles to confirm his signals before taking a position. Position traders do not trade much; typically less than 15 trades in a year. Patience is needed on the part of the trader as well as good risk management skills. Part-time traders can adopt this strategy as it is not time demanding. 

A major drawback of this strategy is that it accumulates substantial swap fees due to overnight open trades. This may significantly deplete the accrued potential profits. Position traders must have ample trading capital to accommodate the wide market fluctuations which span through weeks. Some traders argue that this strategy ties down huge capital without commensurate returns. 

Swing trading strategy

This is a medium-term trading strategy where a trader maintains an open position for a few days or weeks before closing it. The primary aim is to capture the short or middle-term price swings of a currency pair. A swing trader first analyzes the currency pair and identifies the large market swings; low swings are support levels while high swings are resistance levels. Then, he takes a position to capture the swing before it reverses in a few days or weeks. 

You must have a huge capital because your stop loss must be wide enough to allow the small price fluctuations within the big swing. Trading discipline is required because you need to ignore the small reversals and focus on the swing. Emotional traders may exit the trade to cut down losses but ultimately miss the middle term fluctuations which is the target. This strategy also incurs swap fees. 

 

Day trading strategy

Just as the name implies, day traders only trade for a day. This strategy involves the opening and closing of a position in one day. The focus of the day trader is to take advantage of the intraday exchange rate fluctuations by opening one or several positions but closing all before the end of the day. 

A huge chunk of forex traders fall under this category and so, there are numerous day trading strategies based on different timeframes, liquidity, volatility, and trader preferences. Most day trading strategies are based on technical analysis. Also, there are many free and paid signals specifically made for day traders. 

Depending on the strategy, many day traders spend a lot of time analyzing and monitoring the markets. But, with the right software tools such as price alerts, AutoChartist, etc; valuable time can be saved. Even, some day trading strategies can be automated using a forex trading robot. 

Trend trading strategy

This strategy involves identifying a trend in the currency price action charts; establishing its direction, and then placing your trade to capture the market movement. It is one of the strategies easily taught to beginner traders. They are told to identify a trend and ride it by placing a trade in the trend direction because ‘the trend is your friend’. But experienced trend traders know that it is not as easy as it seems.

A trend is an overall direction in which the price of a currency pair appears to follow. Normally, price action follows a zigzag path especially when viewed on a short timeframe, but a trend can still be identified as upwards, downwards, or sideways. An uptrend or bullish trend comprises a series of higher highs and higher lows but generally constitutes a higher move in prices. Similarly, bearish or downtrend generally depict a lower move in prices.

Trend trading requires in-depth technical analysis knowledge. The trader needs to determine the type of trend, duration of the trend, the stage, and trade duration because he must exit before the trend reverses. A combination of technical indicators is usually deployed by the traders to help with their analysis. 

 Scalping strategy

Scalping is a forex strategy where the trader’s target is to capture the short-term price movements; so, he opens a trade and closes it after a few minutes or even seconds. It is one of the most popular forex trading strategies because it is fast-paced and can easily be applied by both new and experienced traders. 

Scalping sounds simple and easy, but successful scalpers use complex strategies to generate their signals and most importantly, they have reliable exit strategies. Deep knowledge of technical analysis is required because every pip counts. The strategy is profitable when properly applied but can easily wipe an account in times of volatility; especially if the account is highly leveraged. 

In one trading session, scalpers open and close multiple trades. So, trading fees may accumulate to diminish or wipe out any profits made. Scalpers are active traders who spend a lot of time trading and analyzing the forex markets.

But, some scalping strategies can be automated using forex trading robots. If a robot is deployed, the scalper will be free to do other things while the robot will analyze the markets and execute trades on his behalf. Algorithmic or robotic trading is increasingly becoming popular as it is precise, fast, eliminate human error, and saves the trader a lot of analysis time.

News Trading

Forex news refers to the various economic data released periodically. Some of them are statistical data like GDP, unemployment rate, inflation figures, etc. News trading strategy attempts to capitalize on the opportunities that arise before and after these economic data are released. Historical data and market expectations play important roles in traders’ decisions. This strategy is not for newbies as the news trader needs a profound understanding of the financial markets, robust trading plans, and knowledge of how the markets interpret the news. 

 

Price action trading

This strategy focuses on the analysis of the recent up and down price fluctuations of a selected currency pair. The trader generates buy and sell signals by looking at the recent historical prices, rather than from technical indicators. Price action traders believe that every market fundamental or concept is reflected in the price action. 

So, they simply look at the ‘naked charts’, identify clues from the charts that could give the next market direction, and then place their orders accordingly. Experienced traders can spot trading opportunities from chart candlesticks with little or no analysis. There are numerous price action trading strategies; the popular ones are shooting star, hammer, harami, etc. 

 

Summary

Forex trading strategies refer to the methods used by forex traders to know when to trade and whether to go long or short on a currency pair. The types of market analysis used by forex traders are: fundamental, technical, and sentimental analysis. Fundamental analysis focuses on the underlying political, economic, and social factors affecting a currency. Technical analysis focuses on price charts and historical data while sentimental analysis focuses on the action of traders and how they are trading. 

There are innumerable trading strategies but the popular ones are: 

  • Position trading 
  • Swing trading 
  • Day trading
  • Trend trading 
  • Scalping
  • News trading 
  • Price action trading