There are many different trading strategies that traders employ but very few of them actually work, in this article, I am going to write about what works in the Foreign Exchange (or Forex) market and why.
Any trading strategy, no matter what it is, will not work if it does not employ at least one edge to give the trader better than 50/50 odds of their being right or of gaining more from a winning trade than they will lose on a losing one. If trades were simply entered on a coin toss and exited at random then the traders doing this would, on average, win as often as they lost with the size of the average losing trade being equal with the size of the average winner. In a scenario like this traders would slowly lose all the money in their trading accounts as the costs of trading (i.e. the spread) slowly ate up their trading capital. To succeed then, traders need to find some sort of edge that will give them better than 50/50 odds of success and one that is big enough to overcome the costs of trading and more.
Different edges occur on different markets and they occur because of the forces that drive those markets. Stocks and stock market indexes such as the UK’s FTSE 100 or the American Dow Jones Industrial Average for example are driven by speculators aiming at short-term highs and lows, these markets therefore constantly revert towards their means (recent averages) after a fairly recent high or low and usually have clear support and resistance levels in the medium term (time frames of several days to a couple of weeks or so). The Foreign Exchange marker however behaves rather differently and it is therefore not wise to use a strategy that works on stock market indexes for trading currencies.
The value of different nations currencies on the global Foreign Exchange market is driven by some else entire. Financial speculators still don’t have access to enough cash to move the currencies of large industrialised nations to their whims and these markets tend to be driven by larger forces such as macro-economics, global trade balances and the policies of the governments of large countries and their central banks. These forces don’t generally change their direction from week to week and once a currency is moving against another in a certain direction it normally takes a lot to stop it. These markets (whilst having short term corrects) generally experience long-term trends and long-term trend following strategies are therefore usually the most successful of all strategies for trading currencies.
Another feature of trends on the Forex market is that short-term price corrections. Whenever the price of one currency is moving in different directions on different time frames the longer term direction usually wins. Good trading strategies for FX trading therefore make use of the long-term trend as the old saying goes the trend is your friend and short-term price corrections should be seen and entry opportunities, never as signs the market is changing direction. In Forex, those who try to predict turning points and pick short-term tops and bottoms are almost always wrong whilst those who just go with the long-term trend are far more likely to have success.