Short-Term Currency Trends

Cashing in on Short-Term Currency Trends

Most of the time, markets don't show a clear trend - they bounce back and forth between support and resistance levels. This sideways movement is called a trading range. Below is a strategy that can help you identify entry points on short-term trends, while protecting your profits with trailing stops.

Trade Set-up

The strategy uses two charts with different time periods (10-minute and hourly), along with two technical indicators: a 200-bar moving average and a 14-bar slow stochastic study.

Step 1: Identify a trend

Compare the moving averages on both charts. A trend may be developing when price is consistently above or below the moving averages on both charts.

Step 2: Pinpoint entry

Once you've identified a trend, look for the following two conditions at the same time on the 10-minute chart:
1. Price is no more than 20 pips above (to buy) or 20 pips below (to sell) the MA.
2. The "fast" stochastic (%K) crosses above the "slow" stochastic (%D) below 20 (to buy), or crosses below the "slow" stochastic above 80 (to sell).

Step 3: Ride the trend

Set a trailing stop after the trade entry.
On a LONG position, the stop order should be 10 pips BELOW the 200-period MA on the 10-minute chart. You'll RAISE the stop as the trade goes in your favor.
On a SHORT position, place the stop 10 pips ABOVE the MA. You'll LOWER the stop as the trade goes in your favor.

An example: EUR/USD, June 2002

Step 1: Compare the hourly and 10-minute EUR/USD charts.

On the hourly chart, price is almost exclusively above the 200-hour moving average, indicating a persistent uptrend.

On the 10-minute chart, price moves (and remains above) the moving average in the last third of the chart.

Step 2: Pinpoint the entry zone

When the market is within 20 pips of the moving average on the 10- minute chart, and the stochastic lines cross. As indicated in the chart, conditions are right around 8pm on June 27.

Buy EUR/USD at .9883

Protective t-stop set at .9858 (10 pips below MA)

Sell EUR/USD at .9992

Protective t-stop has moved up to .9967

Profit = 109 pips, or US $1090

+ Placing contingent orders may not necessarily limit your losses.

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Using Technical Indicators

Price charts help traders identify trade-able market trends - while technical indicators help them judge a trend's strength and sustainability.

If an indicator suggests a reversal, confirm the shift before you act. That might mean waiting for another period to confirm the same indicator's signal, or checking out another indicator. Patience will help you read the signals accurately and respond accordingly.

Types of Moving Averages

One of the most widely used indicators, moving averages help traders verify existing trends, identify emerging trends, and view overextended trends about to reverse. As the name suggests, these are lines overlaid on a chart that "average out" short-term price fluctuations, so you can see the long-term price trend.

A simple moving average weighs each price point over the specified period equally. The trader defines whether the high, low, or close is used, and these price points are added together and averaged, forming a line.

A weighted moving average gives more emphasis to the latest data. It smoothes out a price curve, while making the average more responsive to recent price changes.

An exponential moving average weighs more recent price data in a different way. An exponential moving average multiplies a percentage of the most recent price by the previous period's average price.

Finding the best moving averages and period for your pair

It can take a while to find the best combination of moving average and period length for your currency pair. The right combo will make the trend you're looking for clearly visible, as it develops. Finding that optimal fit is called curve fitting.

Usually traders start by comparing a few timeframes for their moving averages over a historical chart. Then you can compare how well and how early each timeframe signaled changes in the price data as they developed, then adjust accordingly.

When you've found a moving average that works well for your currency pair, you can consider this as a line of support for long positions or resistance for short positions. If prices cross this line, that often signals a currency is reversing course. Here's an example:

Longer-term moving averages define a trend, but shorter-term MAs can signal its shift faster. That's why many traders watch moving averages with different timeframes at once. If a short-term MA crosses your longer-term MA, it can signal your trend is ending - and time to pare back your position.

Stochastics

Stochastic studies, or oscillators, help monitor a trend's sustainability and signal reversals in prices. Stochastics come in two types, %K and %D, measured on a scale from 0 to 100. %K is the "fast", more sensitive indicator, while %D is "slow" and takes more time to turn.

Stochastic studies aren't useful in choppy, sideways markets. In these conditions %K and %D lines might cross too frequently to signal anything.

Relative Strength Index (RSI)

Like stochastics, RSI measures momentum of price movements on a scale of 0 to 100.
Always confirm RSI signals with other indicators. RSI can remain at lofty or sunken levels for a long time, without prices reversing course. All that means is that a market is quite strong or weak - and likely to stay so for a while.

Adjust your RSI to the right timeframe for you. A short-term RSI will be very sensitive and give out many signals, not all of them sustainable; a longer-term RSI will be less choppy. Try to match your RSI timeframe to your own trading style: short-term for day traders, longer-term for position traders.

Divergences between prices and RSI may suggest a trend reversal. Of course, make sure you confirm your signals before acting.

Bollinger Bands

Bollinger Bands are volatility curves used to identify extreme highs or lows in price. Bollinger Bands establish "bands" around a currency's moving average, using a set number of standard deviations around the moving average. Creator Jon Bollinger recommends the following:

Touching a high or low band doesn't necessarily mean an immediate trend reversal. Bollinger Bands adjust dynamically as volatility changes, so touching the band just means prices are extremely volatile. Use Bollinger Bands with other indicators to determine the trend's strength.

Fibonacci Retracements

Fibonacci retracement levels are a sequence of numbers discovered by the noted mathematician Leonardo da Pisa in the 12th century. These numbers describe cycles found throughout nature; technical analysts use them to find pullbacks in the currency market.

After a significant price move, up or down, prices often "retrace" most or all of the original move. As prices retrace, support and resistance levels often occur at or near the Fibonacci Retracement levels. For currencies, that means retracements usually happen at 23.6%, 38.2%, 50% or 61.8% of the previous move.

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What is Technical Analysis?

Technical analysis attempts to forecast future price movements by examining past market data.

Most traders use technical analysis to get a "big picture" on an investment's price history. Even fundamental traders will glance at a chart to see if they're buying at a fair price, selling at a cyclical top or entering a choppy, sideways market.

Technical analysts make a few key assumptions:

• All market fundamentals are reflected in price data. Moods, differing opinions, and other market fundamentals need not be studied.
• History repeats itself in regular, fairly predictable patterns. These patterns, generated by price movements, are called signals. A technical analyst's goal is to uncover a current market's signals by examining past market signals.
• Prices move in trends. Technical analysts believe price fluctuations are not random and unpredictable. Once an up, down or sideways trend has been established, it usually will continue for a period.

Get in and get out - at the right time

Traders rely on price charts, volume charts and other mathematical representations of market data (called studies) to find the ideal entry and exit points for a trade. Some studies help identify a trend, while others help determine the strength and sustainability of that trend over time.

Technical analysis can add discipline and minimize emotion in your trading plan. It can be hard to screen out fundamental impressions and stick with your entry and exit points as planned. While no system is perfect, technical analysis helps you see your trading plan through more objectively and dispassionately.

Price chart types

Bar charts

The most common type of chart showing price action. Each bar represents a period of time - a "period" as short as 1 minute or as long as several years. Over time, bar charts show distinct price patterns.

Candlestick Charts

Instead of a simple bar, each candlestick shows the high, low, opening and closing price for that period of time it represents. Candlestick patterns provide greater visual detail as they develop.

Point & Figure Charts

Point & figure patterns resemble bar chart patterns, except Xs and Os are used to mark changes in price direction. Point & figure charts make no use of time scale to associate a certain day with a certain price action.

Technical Indicator Types

Trend

Trend indicators smooth price data out, so that a persistent up, down or sideways trend can be easily seen. (Examples: moving averages, trend lines)

Strength

Strength indicators describe the intensity of market opinion on a certain price by examining the market positions taken by various market participants. Volume or open interest are the basic ingredients of strength indicators.

Volatility

"Volatility" refers to the magnitude of day-to-day price fluctuations, whatever their directional trend. Changes in volatility tend to anticipate changes in prices. (Example: Bollinger Bands)

Cycle

Cycle indicators indicate repeating market patterns from recurrent events such as seasons or elections. Cycle indicators determine the timing of a particular market pattern. (Example: Elliott Wave)

Support/Resistance

Support and resistance describes the price levels where markets repeatedly rise or fall and then reverse. This phenomenon is attributed to basic supply and demand. (Example: Trend Lines)

Momentum

Momentum indicators determine the strength or weakness of a trend as it progresses over time. Momentum is highest when a trend starts and lowest when the trend changes.

When price and momentum diverge, it suggests weakness. If price extremes occur with weak momentum, it signals an end of movement in that direction. If momentum is trending strongly and prices are flat, it signals a potential change in price direction. (Example: Stochastic, MACD, RSI)

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Calculating Metals P&L

Calculating Gold P&L

Profit and loss calculations for spot gold are fairly simple. The smallest increment of a spot gold price is 0.01. The smallest trade you can place in spot gold is a single lot, or 10 troy ounces. At this level, each pip is worth $0.10. A change in price from 920.55 to 920.85 means a difference of 0.30, or 30 pips. If you are trading 1 lot, and each pip is worth 10 cents, then the profit or loss from this trade would be $3.00.

If you decide to trade more than one lot, the value of each pip is simply multiplied by the number of lots you are trading. Rather than each pip being worth 10 cents, if you are trading 5 lots then each pip is now worth 50 cents.

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Spot Gold Leverage & Margin

How leverage for spot gold works+

Leverage for spot gold trading is set at 100:1. This means that for every $1 you have in your account balance, you have $100 in buying and selling power for gold trading. As a result, leverage increase a client's buying and selling power and enables clients to participate in a market that may otherwise be cost prohibitive. Keep in mind that increasing leverage increases risk.

How margin for spot gold works

Margin is the amount of money you must have in your account to hold a particular trade. At 100:1 leverage, your margin factor is 0.01 (1%). This means that you are required to have a minimum cash balance of 1% of the total value of the positions you hold in your account at any one time. If you fall below this amount, your trade may be closed, otherwise known as being liquidated.

Let's look at an example:

Let's say you would like to place a trade of 1 lot (10 troy oz) of spot gold, and you would like to buy it at $920.55. The amount of margin you would be required to maintain would be 1% of your trade size.

So, 10 (oz) multiplied by the price, 920.55 and multiplied by the margin factor, 0.01 would give you $92.06.

10 x 920.55 = $9,205.50

$9,205.50 x .01 = $92.06

This is the margin requirement for a single lot of spot gold bought at $920.55. If your account balance falls below this level, your trade would be closed. Another way to look at this example is to say that 100:1 leverage gives you the ability to trade 10 ounces of gold, at 920.55, with $92.06.

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Metals Market Drivers

The following factors may influence the price of metals:

Hedge against inflation

One of the most common description of gold and silver as an investment is as a hedge against inflation. The thinking is that as the inevitable decrease in buying power affects currencies, owning gold is one way to hedge against the value of your wealth decreasing. Doing so ensures that you will receive a commensurate amount of currency for the amount of gold you own, no matter what the inflation rate is.

A "safe-haven" investment

Another view of gold is as a "safe-haven" investment. During times of high volatility and risk, investors may move funds to gold as a way to safeguard against uncertainty.

Understanding economic and political factors

Indicators that impact inflation such as the Consumer and Producer price indices, interest rate announcements, and treasury auctions play a large part in determining the inflation rate, and therefore have an impact on gold prices. Macroeconomic indicators, such as the Unemployment rate and Gross Domestic Product (GDP) also shed light on the strength of an economy, and may lead investors to lean towards or away from moving money into gold.

Political events can also have a significant impact on the price of gold. If uncertainty arises over conflict in the Middle East, this might have an effect on the perceived safety of an investment in a country's bonds or currency, and to hedge against this risk, investors might move funds into gold or cash. Oil and other commodity prices may also be affected, and the commodity relationship might have a carry-over effect into the gold markets, pulling or pushing the price of gold in the same direction as oil.

Typically the spot gold market is somewhat volatile, given the ability to enter and exit trades several times a minute. For this reason, prices may be more susceptible to short-term fluctuations that do not necessarily follow a long-term trend.

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Metals Quotes

How to read a spot gold quote

Reading a spot gold quote is very similar to reading a forex quote. It is even represented the same way (XAU/USD) and it's simple if you remember three things:

1. The first symbol listed is 1 troy ounce of gold
2. The value of the gold is always 1.
3. The price literally translates to; 1 ounce of gold is equal to XXX.XX U.S. dollars.

When the price or quote for gold goes up, gold has strengthened in value and is now worth more dollars than before. If the price of gold goes down, it takes fewer dollars to purchase 1 ounce of gold, and the value of the dollar has increased when compared to the value of gold.

Bids, asks and the spread

Just like other markets, spot gold and forex quotes consist of two sides, the bid and the ask:

The BID is the price at which you can SELL.
The ASK is the price at which you can BUY.

The difference between the bid and ask prices is called the spread.

What does it all mean?

Gold prices are quoted internationally in U.S. dollars per troy ounce. A quote of 900.25 means that 1 oz gold is equal to $900.25. If you buy a single lot of gold (1 lot = 10 oz) at this price and sell it at a higher price, your profit would be the difference between these two prices. In this way, trading spot gold on FOREX.com's trading platforms is nearly identical to trading currencies.

A typical quote you might receive for spot gold is 900.25/75. This means that you could sell one or more lot(s) of gold at 900.25, or buy (s) at 900.75. The spread you would pay in this example would be the difference between these two prices (900.75-900.25) or 0.50.

The dollar amount represented by the change in price will depend upon the size of the trade you have placed. The smallest amount you can trade with FOREX.com is 1 lot, which represents 10 troy oz. At 1 lot, the smallest price change possible (0.01) is equivalent to $0.10.

Let's look at an example:

Let's say you decided to buy 1 lot of XAU/USD (spot gold) at 900.25.

A few minutes later, the bid (or sell) price has risen to 900.95, and you decide to exit your trade. You bought 1 lot at 900.25 and sold at 900.95, making 70 pips in the process. 70 pips, at $0.10 per pip, equal $7.00.

Pips or points, what's the difference?

Like forex prices, spot gold prices are quoted in tiny increments called points, or pips ("percentage in point"). Located at the second decimal place for a spot gold quote, or 0.01, each pip represents 1 cent in dollar value.

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Trading Spot Gold and Silver

What is Spot Metals Trading?

Much like trading currency pairs, spot metals enables traders to take a long or short position in gold (XAU/USD) or silver (XAG/USD) while simultaneously taking the opposite position in the U.S. dollar or other major currencies. Spot gold and silver trades globally in an over-the-counter market, and prices float freely based on supply and demand. The spot price is the price quoted for the metal to be paid for (including delivery) two days following the date of the actual transaction (also known as the settlement date).

Spot gold and silver trades a lot like currency pairs in the foreign exchange market. Trading is available 24 hours a day from Sunday at 6:00 pm ET to Friday at 5:00 pm ET. There is no central market however, the main centers for trading spot gold and silver are London, New York, and Zurich. Liquidity is typically highest when European market hours overlap with trading in New York - roughly four hours a day during the morning for U.S. traders. There may be some illiquid periods for trading spot gold and silver around the close of the US market (5pm ET to 6 pm ET). There is a twice-daily fix for gold and a daily fix for silver in London that helps set reference points for intraday prices. Settlement is very similar to forex settlements.

Who trades spot gold and silver, and why?

There are many different reasons that drive investors to trade spot gold and silver:

• Speculation on the price based on the use of fundamental and or technical analysis
• Creating a balanced, diversified asset allocation model for an overall investment portfolio
• Applying risk management as a hedge against market volatility and financial crises caused by economic, political or social turmoil.

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Calculating Profit and Loss

For ease of use, most online trading platforms automatically calculate the P&L of a traders' open positions. However, it is useful to understand how this calculation is formulated:

To illustrate an FX trade, consider the following two examples.

Let's say that the current bid/ask for EUR/USD is 1.4616/19, meaning you can buy 1 euro for 1.4619 or sell 1 euro for 1.4616.

Suppose you decide that the Euro is undervalued against the US dollar. To execute this strategy, you would buy Euros (simultaneously selling dollars), and then wait for the exchange rate to rise.

So you make the trade: to buy 100,000 Euros you pay 146,190 dollars (100,000 x 1.4619). Remember, at 2% margin (50:1 leverage), your initial margin deposit would be approximately $2,923 for this trade.

As you expected, Euro strengthens to 1.4623/26. Now, to realize your profits, you sell 100,000 Euros at the current rate of 1.4623, and receive $146,230

You bought 100k Euros at 1.4619, paying $146,190. Then you sold 100k Euros at 1.4623, receiving $146,230. That's a difference of 4 pips, or in dollar terms ($146,190 - 146,230 = $40).


Total profit = US $40.

Now in the example, let's say that we once again buy EUR/USD when trading at 1.4616/19. You buy 100,000 Euros you pay 146,190 dollars (100,000 x 1.4619).

However, Euro weakens to 1.4611/14. Now, to minimize your loses to sell 100,000 Euros at 1.4611 and receive $146,110.

You bought 100k Euros at 1.4619, paying $146,190. You sold 100k Euros at 1.4611, receiving $146,110. That's a difference of 8 pips, or in dollar terms ($146,190 - $146,110 = $80)


Total loss = US $80.

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Understanding Forex Quotes

Reading a foreign exchange quote is simple if you remember two things:


      1. The first currency listed is the base currency

      2. The value of the base currency is always 1.

As the centerpiece of the forex market, the US dollar is usually considered the base currency for quotes. When the base currency is USD, think of the quote as telling you what a US dollar is worth in that other currency.

When USD is the base currency and the quote goes up, that means USD has strengthened in value and the other currency has weakened. Rising quotes mean a US dollar can now buy more of the other currency than before.

Majors not based on the US dollar

The three exceptions to this rule are the British pound (GBP), the Australian dollar (AUD) and the Euro (EUR). For these pairs, where USD is not the base currency, a rising quote means the US dollar is weakening and buys less of the other currency than before.

In other words, if a currency quote goes higher, the base currency is getting stronger. A lower quote means the base currency is weakening.

Cross currencies

Currency pairs that don't involve USD at all are called cross currencies, but the premise is the same.

Bids, asks and the spread

Just like other markets, forex quotes consist of two sides, the bid and the ask:
The BID is the price at which you can SELL base currency.
The ASK is the price at which you can BUY base currency.

What's a pip?

Forex prices are often so liquid, they're quoted in tiny increments called pips, or "percentage in point". A pip refers to the fourth decimal point out, or 1/100th of 1%.

For Japanese yen, pips refer to the second decimal point. This is the only exception among the major currencies.

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Introduction to the Forex Market

What's Forex?

"Forex" stands for foreign exchange; it's also known as FX. In a forex trade, you buy one currency while simultaneously selling another - that is, you're exchanging the sold currency for the one you're buying. The foreign exchange market is an over-the-counter market.

Currencies trade in pairs, like the Euro-US Dollar (EUR/USD) or US Dollar / Japanese Yen (USD/JPY). Unlike stocks or futures, there's no centralized exchange for forex. All transactions happen via phone or electronic network.

Who trades currencies, and why?

Daily turnover in the world's currencies comes from two sources:

• Foreign trade (5%). Companies buy and sell products in foreign countries, plus convert profits from foreign sales into domestic currency.

• Speculation for profit (95%).

Most traders focus on the biggest, most liquid currency pairs. "The Majors" include US Dollar, Japanese Yen, Euro, British Pound, Swiss Franc, Canadian Dollar and Australian Dollar. In fact, more than 85% of daily forex trading happens in the major currency pairs.

The world's most traded market, trading 24 hours a day

With average daily turnover of US$3.2 trillion, forex is the most traded market in the world.
A true 24-hour market from Sunday 5 PM ET to Friday 5 PM ET, forex trading begins in Sydney, and moves around the globe as the business day begins, first to Tokyo, London, and New York.

Unlike other financial markets, investors can respond immediately to currency fluctuations, whenever they occur - day or night.

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