Follow The Fractal Tool Toward Better Breakout Entries

Many traders spend too much time looking for the best possible entry. However, the entry can be based on any number of technical indicators. For traders who are a fan of price-action, you could do no worse than finding triggers based on a fractal breakout in the direction of the trend. 

 

Fractals Defined

Let’s start with an introduction to fractals. The actually are applied to trading from nature and not the other way around. It may be helpful to know that fractals are effectively a way of looking a sub-sets of large pieces of data to understand what developments are being created in real-time. From a trading / market perspective, fractals are an indicator highlighting the chart’s local highs and lows where the price movement reversed marking a 5-bar high or low. These reversal points are called respectively Fractal highs and lows.

 

Learn Forex: The Hand is a Perfect Fractal

Before we take this natural reoccurrence to the market, you should see how your hand, with fingers pointing up is the perfect up fractal and with your palm facing you, is a perfect down fractal. A Market swing Fractal shows a price extreme in the middle of 5 bars whereas an up fractal has the middle bar with a highest high in the middle with two lower highs on the left and two lower highs on the right. A down fractal will have a low price extreme in the middle bar of a 5-bar sequence with the higher lows on the left and two higher lows on the right. 

 

How Traders Can Use Fractals

Volatility is a key determinant to trading opportunities. One of the common triggers that volatility is in play is when a prior high or low is taken out and a new trend begins. Fractals can be applied to the chart so that you can see when a recent key level has broken which can lead to a price-action trading opportunity. 

 

Learn Forex: Pinpoint Key Price Action Swings With Fractals

Presented by FXCM’s Marketscope Charts

Fractals revolve around price action highs and lows and can easily pinpoint places for a breakout entry or tight price action based stop.

Fractals can be used in a variety of ways. Most commonly, traders will look for a bar to close above a prior up fractal to show an upside breakout or a close below a prior down fractal to signal a downside breakout that is potentially worth trading. Another positive aspect is that when you have a comfortable view of a strong trend in play, you can use fractals as a trailing stop from a prior counter-trend move which made a fractal. 

 

Learn Forex: USDOLLAR down Fractals Have Been Stair Stepping Higher since Recent Reversal

Presented by FXCM’s Marketscope Charts

Real-Time Fractal Set-Up

For purpose of review, fractals mark price changes or pivots in the market. For reasons known or unknown, they are reaction points that can help you spot key places to place an entry order or stop. From a trader’s stand-point, they allow you to enter on a confirming view of your analysis vs. a hunch that a market is oversold or overbought and is time to enter like this trade set-up on the Australian Dollar.

Learn Forex: A Fractal Based Entry on AUDUSD

Presented by FXCM’s Marketscope Charts

Every trader should embrace the following seven words:

I don’t know what will happen next

This isn’t meant to disregard your analysis but tell a simple fact about trading. Anything can happen in the market place and an infinite number of possibilities are plausible. As a trader, we can develop a strategy with set rules that work with our psychology to give us an edge but it will not predict the future. Therefore, we can use fractals as a trigger to put us into a trade or out of a trade and we may not know if the trade will end in a profit but we can now that we’re only acting on objective evidence.

How to Trade Gold in an Oversold Market

The Relative Strength Index (RSI) is a poplar oscillating indicator designed to help us determine market momentum and pinpoint entries during a variety of trading conditions. However, depending on if the market is ranging or trending, traders should approach the overbought and oversold RSI values seen below very differently. Today we are going to review the trend developing in gold (XAU/USD), and how RSI can be used to enter into strong moving trends.

RSI Crossovers

Normally traders will use the RSI indicator for what is known as a crossover. A crossover occurs when RSI swings through an overbought or oversold value, then cross back through the selected value. The idea behind this is to enter new trades when momentum returns to the market. This can be a great strategy and normally will work when the market is in a range bound environment used in conjuncture with a support and resistance levels. Ultimately, traders using crossovers are looking to buy when prices are low or sell when prices are relatively high.

However, at the moment this strategy is not conducive for trading strong trends such as gold. Due to the market being in a downtrend, traders should absolutely avoid entering trades when RSI crosses back above oversold values. While traders may be inclined to buy low at these points, the chart below shows in most instances prices continuing toward lower lows. So the question is, how can RSI be helpful in directional markets.

Learn Forex – XAU/USD with RSI Crossovers

Using RSI Momentum

When it comes to trending markets, it is important to remember that RSI is a momentum oscillator. Because of this, it is normal for RSI to remain oversold in a downtrend for some time. This can often be disheartening for swing traders as they wait for RSI to move back above oversold values for a chance to sell a RSI crossover in a downtrend. The good news is, this is not the only way to trade using RSI! Let’s look at another way of trading the indicator.

One of the most overlooked ways we can use RSI in trending environment is to sell into oversold values. This style of trading may seem counter intuitive at first, but it is very similar to trading a breakout strategy. As price continues to decline and work to create new lows RSI should move to lower lows as well. Traders watching this momentum can actually institute new trades when RSI moves below 30 (Oversold). The Daily Gold chart below is an excellent example of this technique at work. Instead of buying an oversold crossover, traders will look to sell as soon as RSI becomes oversold.

Learn Forex – XAU/USD with Oversold Entry

The key to using RSI in this manner is that markets must remain trending. For gold, this can continue as long as fresh lows are put in place. It is important to remember that market conditions are always subject to change. In the event that the current trend ends, RSI traders can then shift gears and begin using RSI in another format.

As you can see, RSI is a versatile indicator for timing entries in a variety of market conditions. To learn more about RSI and how it can be used in an active trading plan, sign up for the DailyFX RSI training course linked below. Registration is free, and the course will include videos, checkpoint questions and access to an advanced RSI strategy. 

Strong Weak Analysis for Scalpers

Forex traders have a variety of options when it comes to trading. However, those traders who are looking to peruse scalping opportunities will most directly benefits from identifying the strongest and weakest currencies, while identifying inter day price action including levels of support and resistance. To help us with this task today we will be using the Strong Weak app coupled with Camarilla Pivots. Let’s begin! 

 

Picking a Currency Pair

 

Scalping is all about momentum and market conditions. This means traders should be actively looking for pairs where a strong currency is pitted against a weaker one. The reason for this is to identify an active market trend in witch to participate. Below we can currently see the GBPJPY listed as a weak currency using the Strong Weak Application from the FXCM App Store. Knowing this, traders will look for opportunities to sell the pair while looking for scalping opportunities.

If you are unfamiliar with Strong Weak analysis, that is ok. You can review the app along with two of its uses through a series of videos linked below. After clicking on the link, you’ll be asked to input information into the ‘Guestbook,’ after which you’ll be met with a series of videos along with additional information regarding the Strong Weak application.

 

Risk Management App and Review via Brainshark

 

Learn Forex –Strong Weak App

 Scalping A Retracement

 

Once a currency pair has been selected for trading, it is time to pick a strategy for trading. To help aid in this decision, traders can use Camarilla pivots to identify key technical levels for trading. Below we can see these pivots in action with key levels of resistance labeled R1-4 and support labeled S1-4.

The first methodology of trading pivots is to look for a retracement. Retracement traders will look for pullbacks in the trend and look to enter the market near a point of support and resistance. If price is in a downtrend, such as the GBPJPY, traders will look for price to move to resistance and then enter fresh sell orders. Below we can see price action from this morning’s trading of the GBPJPY. First price moved up to resistance (R3), before momentum returned to the market and offering traders their first opportunity to enter fresh orders. 

 

Learn Forex – GBPJPY with Camarilla Pivots

 

(Created using FXCM’s Marketscope 2.0 charts) 

 

Trading a Breakout

The second methodology of trading Camarilla Pivots is by looking for a breakout. Above we can see a breakout occurring today on the GBPJPY at the S4 support pivot. S4 represents the last line of daily support for a currency and in a downtrend and can offer a distinct area to enter new sell orders. This process can be inverted for an uptrend, looking to sell a breakout above the R4 resistance pivot.

These are just two of the most popular ways to approach scalping Forex pairs with pivot points. Now that you are more familiar with this methodology, you can practice what you have learned using a demo account. You can get started by registering for a Free Forex Demo with FXCM. This way you can develop your trading skills while continuing to track the market in real time.

3 Tips to Better Risk Management

While the question of money management may seem fairly straightforward, it remains the most critical component of any trading plan. Before placing a trade, traders should examine exactly what the risks associated with that trade. This includes asking some tough questions about stop placements, risk totals, as well as risk reward levels. To help answer some of these concerns today we will tackle some tips for better risk management. Let’s get started!

 

Plan Your Exit

More often than not, traders have an idea of where to exit the market when a trade is moving in their favor. While a profit target is always good to have, every trader should have a contingency for when a trade moves against them. Stop losses can be set in a variety of manners, but more often than not these levels are coupled with an existing value of support and resistance.

Remember, a stop order is a point on the graph where your trade idea is considered no longer valid. If you have buy orders in place, and a key level of support is broken with price making a lower low it may be time to consider exiting the trade. As well, the opposite is true in a downtrend. If a trader is selling while prices are making higher highs it may be time to look for a new trading idea!

 

The 1% Rule

After you have planned a point of exit, traders need to decide how much to risk per trade. Since it is inevitable that at one point a trade will close at a loss, it is important to know exactly how much you intend to lose prior to that occurring. One way to determine this is the 1% rule. Simply put, this means traders should risk no more than 1% of their TOTAL balance on any one trade idea. For instance if you have a $10,000 balance at no point would you want to risk more than $100 on any 1 trading idea.

The 1% rule can also be coupled with a favorable risk reward ratio. Using a 1:2 setting, this means if we risk 1% in the event of a loss, at minimum we should look to close our trades out for a 2% profit. This would translate into a $200 profit on a $10,000 account balance. Now that you are familiar with the 1% rule, let’s look at our next risk management tip.

 

FXCM Money Management App

To help traders control and manage their risk, programmers at FXCM have created a simple indicator to help decipher how much risk is being assumed on any one particular trade. Once added to Marketscope 2.0, the FXCM Risk Calculator, as depicted above, has the ability to help a trader calculate risk based off of trade size and stop levels.

We walk through the application, as well as how to manage risk in several videos embedded into the brainshark medium. After clicking on the link below, you’ll be asked to input information into the ‘Guestbook,’ after which you’ll be met with a series of risk management videos along with download instructions for the application.

Risk Management App Download and Review via Brainshark

Simple Way to Avoid False Breakouts

Breakout trading can be a rewarding strategy in volatile markets, but is often plagued with fake signals and false breakouts that can discourage even the best traders. Today, we will cover what a fake breakout is and how to avoid them in our trading.

 

What is a False Breakout?

A false breakout is when price temporarily moves above or below a key support or resistance level, but then later retreats back to the same side as it started. This is the worst case scenario for a breakout trader that enters in a trade as soon as price breaks. We are immediately faced with a red arrow on our chart and the breakout we traded is looking less and less real.

Being forced to watch as breakout trades disintegrate in front of us is tough to swallow, and we are left deciding whether we should stay in and “ride it out” or close the trades for a quick loss. Neither of those options sound very appealing. So to avoid this in the future, we need to add a new rule to our existing breakout trading strategy.

 

Learn Forex: Avoiding False Breakouts

(Created using Marketscope 2.0 Charting Platform)

 

How to Avoid a False Breakout

The solution to this problem is actually pretty simple (as depicted above). Rather than act on a trade in real time as soon as price breaks a key level, we should wait until the candle closes to confirm the breakout’s strength. So the idea of setting entry orders above or below a support or resistance levels to automatically get us into a breakout trade is not a very good one. Entry orders allow us to get “wicked” into breakout trades that never actually materialize.

On the surface, this would lead us to believe that the only way to effectively trade breakouts, is to be at our trading terminals ready to act as soon as the candle closes in breakout territory. Once the candle closes, we can then open our position that hopefully has a higher chance of success. But what if we don’t have all day to sit around and wait for breakouts?

 

Setting Alerts Based on the Candles’ Close Prices

So, if physically waiting at your computer for a breakout is not an option, I recommend using a price alert that uses each candle’s closing price as its trigger. In other words, you will only receive an alert if support or resistance is broken and remains broken through the close of that specific candle. That way you can receive your alert, log in on your computer or mobile application and place the trade. To set this up, we need to right-click on our chart and select “Add Price Alert.”

 

Learn Forex: Add a Price Alert in Marketscope

The specific price alert option we need to look at is the Period. This is where we select the size of chart we are looking at; Daily, 4-hour, 15-minute, etc. In the example below, we were looking at an hourly chart. So we selected “H1” for our period.

 

Learn Forex: Selecting the Period Size in Price Alert Menu

 

Once selected, we will only be alerted if a candle closes beyond the price level we selected rather than alerted as soon as the price is broken in real time. For an hourly chart, that mean we could only be alerted at the top of the hour, after each bar closes. This is exactly what we were looking for.

 

Avoiding False Breakouts

This tiny tweak can make a big impact on your breakout trading. But like always, I recommend making these changes to your strategy in a demo environment before testing them with real money. You can sign up for a free FXCM demo account here.

Becoming an Emotionally Intelligent Trader

We’re only in it for the money. That key trading concept is obvious but shouldn’t be forgotten. The reason why this mantra is key is because we’re not into trading for the following reasons:

-To Beat the Market

-To Show People How Smart You Are

-To Feel Excitement through use of Aggressive Leverage

If you’re interested in learning what else, besides emotions, it takes to trade like a professional trader, register for our free course here.

 

Why Emotions Get Shunned By Traders

Some traders opt for an Automated Trading or Black Box strategy. The purpose of a black-box system is to have your preferred trading rules or edge programmed so as to put you into a trade and exit you from a trade when the edge is gone or the profit target is achieved. The argument of this approach is that your emotions can’t get in the way of you entering or exiting a trade. However, a trading career is made up of more than just on trade and if you do not have the emotional strength to stick with your edge, programmer or discretionary, then your emotions are still getting the best of you.

Either way, your emotions are at play. If you’re deciding when to enter the trade yourself, known as discretionary trading, your emotions are obviously at play. The way emotions effect newer traders is that new traders hope their losses will come back so they let them run in order to avoid booking a loss. They fear that their profits will turn into losses so they cut them short. However, this fear and hope tug-of-war doesn’t work out in the traders favor in the long term.

 

A Better Way to Look at Emotions

Emotions aren’t bad if you know how to steer them towards your benefit. By default, you likely don’t like being wrong or losing money, who would? However, taking a big picture view, being wrong sometimes and losing a little money when deciding if the market is going to move in the direction you believe it will, these two things aren’t that bad and are in fact, inevitable.

So a better way to look at emotions is to flip how you’re using hope and fear and most specifically fear. If you can switch your fear from a place of fearing a losing to trade to fearing a losing trade getting out of control, you’ll discover a key emotional truth to trading well, regardless of your balance.

As the opening quote mentions, instead of hoping that your loss will turn into a profit so you don’t look like a failure, you should hope that your profits grow larger while always fearing a large relative loss. By flipping these from there default function, you’re no longer holding onto a losing trading waiting for it to come back while closing out your good trades at a minimal profit afraid that the profit will slip through your fingers. As Michael Martin put it, that’s like pulling your flowers and letting your weeds flourish in hoping they change. 

 

Applying Your Emotions to FX Trading Appropriately

 

 

So now that you know that your emotions are not your enemy when appropriately adjusted, what’s the best way to apply this information? This may come as a shock, but you need to start from the premise that you don’t know FOR SURE if your next trade will hit its protective stop or profit target. Of course, you’d prefer that every trade hit its profit target but by now, you know that’s not always the case.

However, like the picture from above, you’re not sure if the next trade will take you off the road you were planning on driving down (read: the trend bends or ends to get you out of your trade). Therefore, when you’re in a trade based on your edge or indicators, it’s best to keep an eye for trades that go against you from the start and see that it’s best to fear these trades and get out there or just accept that your profit target most likely will not get hit but whatever you do, don’t remove your stop and hope for a trade that goes sour right away. These are the trades you should rightly fear draining your equity.

On the flip side, if you’re entering at the right time and price (unbeknownst to you or not), and the trade goes in your favor right away, then it’s best to keep the hope in play that this could be a big move that makes your day, week, month, or year and move your stop up to break even when your system sees it appropriate.

I’ll leave you with a quote from Michael Martin that’s been helpful for me and I hope it does the same for you. “Winners never quit, but quitters have more equity in their accounts when they admit defeat and return tomorrow with a fresh start and a clear head.” This world of trading is a paradox, the trading paradox involves embracing losing trades early and often while allowing those few golden trades make your year.

Now that you're familiar with a new way of handling emotions while trading, feel free to try this information out on a FREE Forex Demo Account with access to multiple markets.

Top Trade Idea For May 15th, 2014 – EURUSD

As the ECB came last week and messed up all the technical charts possible with the bearish statement calling for acting next time they meet in June, it is about time to re-evaluate the situation on the eurusd and check if there is still something there for the eurusd bulls.

Therefore, this scenario should be called, if you want, the last chance for eurusd bulls.

What we are having here is a daily chart that looks at the move from the 1.20 area to the upside and from my point of view it is still possible that the whole corrective wave following wave 1 blue to be a double three running, and this is ending almost always with a contracting triangle.

The triangle that you are seeing there is not a classical contracting triangle but a running variation of it, and the recent 1.3994 rejection comes from the apex of the triangle.

In such a triangle, the e wave should not end below 61.8% when compared with the previous d wave and this should be the stop loss, anywhere in the 1.3550/70 area.

The target on the other hand is more than generous as it implies 1.40 to come in a jiffy, considering the time frame.

And that should be just the beginning of a strong impulsive move to follow.

It remains to be seen if the markets will confirm it.

A Tasty EURJPY Ichimoku Set-Up As The

From late 2012 to the 1st trading day of 2014, many traders felt the downtrend in the JPY which pushes higher JPY crosses couldn’t be stopped. A lot of the downfall in the JPY has been on the back of a major monetary policy committee. For a while, the monetary policy taken on by the Bank of Japan seemed to have all but sealed the victory of their war on inflation all the while weakening the JPY. However, 2014 hasn’t been kind to those looking for a weaker JPY and given the impending 

 

EURJPY - An Impressive Trend

When you step back, you realize the EURJPY was the perfect long trend trade based on each country’s monetary policy standings in mid-2012. In late July, Mario Draghi of the European Central Bank stated that they would do, “whatever it takes”, which marked the low in many EURO crosses. At the same time, Shinzo Abe was running for Prime Minister in Japan, and he was promising a restoration of economic pride by raising inflation which would weaken the JPY and it did. This made EURJPY a screamer to the upside since summer 2012, but 2014 has brought of shifting of tides that could allow us to find a trading opportunity to the downside. 

 

Learn Forex: EURJPY Has Finally Found Resistance

Presented by FXCM’s Marketscope Charts

The bottom left of the chart has the low put in before Draghi’s comment mentioned earlier. As Euro strength began to gather steam, so did JPY weakness. The JPY weakness ran throughout the currency world but was most cleanly seen in EURJPY, which rose 5,100+ pips from mid-2012 to the beginning of 2014. After this strong push higher, we’re going to look for a reversal or trend trading correction as per Ichimoku rules to help us enter a higher probability trade. 

 

Long Term Resistance

If we’re looking for a trade against the trend from mid-2012, the first thing we want to see is levels and tools like oscillators that show us that EURJPY is running out of steam. We have both in looking at the Relative Strength Index & the 2009 intraday high of 139.214 which are tipping us off to the potential for a strong turn to the downside. Additionally, Elliott Wave also shows common patterns that play out before another counter leg-move. If you’re unfamiliar with Elliott Wave, here’s a quick breakdown of the tenets. 

 

Learn Forex: 2009 High Could Soon Break As Support

Presented by FXCM’s Marketscope Charts

Looking above, you’ll notice that the 2009 Top is under pressure and a handful of Fibonacci Resistance levels clustered around the 144 level which as acted as resistance for a majority of 2014. The RSI tool shows us a clear divergence from the May peak to the December ’13 peak so that we can look for moves lower. Lastly, before we get to Ichimoku for triggers, you can see from the top chart that a trendline dating back to February 2013 and the October ’13 low broke last week, which further shows us weakening of the uptrend. Now, let’s look at Ichimoku. 

 

Ichimoku Set-Up with Key Levels

Last week, the European Central Bank said that they were comfortable with the idea of cutting rates in June in order to ease the pressure of low inflation on the economy. This week, ECB member, Vitor Constancio said that he estimated the high levels on the EUR have likely been the reason for 0.5% drop in inflation in recent months. As the ECB began to express distaste for a higher Euro, many traders began to sell aggressively and that brings about an opportunity on EURJPY. 

 

Learn Forex: A Lagging Line Bearish Break Would Trigger a EURJPY Short

Presented by FXCM’s Marketscope Charts

 

Ichimoku Trade: Sell EURJPY on a Close & Lagging Line below Daily Cloud @ 140.00

Stop: 142.50 (Above Exhaustion Point of Triangle and 2014 Trendline)

1st Limit: 136.65 (Just above 2014 Low & 61.8% Expansion of A Wave from End of Triangle)

2nd Limit: 133.05 (Equal Wave Target whereas C=A)

If this is your first reading of the Ichimoku report, here is a recap of the traditional rules for a sell trade:

-Price is below the Kumo Cloud

-The trigger line (black) is below the base line (light blue) or is crossing below

-Lagging line is below price action from 26 periods ago (we also received confirmation on cloud bounce)

-Kumo ahead of price is bearish and falling

-Entry price is not more than 300 pips away from base line as it will likely whip back to the line if we enter on an extended move.

The Three Keys of Day-Trading

1. Have your strategy (and plan) set before ever placing a trade

 

Do you already have a trading plan with your strategy written out? If you don’t, you should. While it may sound overly-detailed, or pedantic; the simple act of just knowing how you want to approach a market can have a massive impact on your overall approach.

Discipline is a necessary trait for any discretionary trader, and perhaps even more important for a short-term trader: But if you don’t know what you should do or how you should do it – how can you expect to have long-term success?

That’s where the trading plan comes in. This is like the trader’s ‘constitution’ as to how they’re going to operate and speculate in a market. This way, anytime a trader begins their operations for a day they already know how they want to attack the market, and they don’t have to make up a brand-new game plan every single morning.

If you want an example of a simple trading plan, we discussed that in the article How to Build a Four-Point Trading Plan; and if you’d like to go more in-depth, we covered that in The Trader’s Plan.

 

Various trader types, and example strategies for each

Trader Type	Sample Strategy
Scalper	Short-Term Momentum Scalping in the Forex Market
Day-Trader	Three Strategies for Three Markets
Swing-Trader	The Four-Hour Trader
Intermediate-Term	Price Action with RSI
Long-Term Trader	The US Dollar Hedge
Position Trader	How to Scale In to Positions

Taken from How to Build a Four-Point Trading Plan

 

2. Be selective – Trading is not entertainment

A key benefit of having the trading plan written out is that the strategy or mannerism for placing trades is already decided upon, and the trader simply has to look to execute as their strategy dictates.

If a trader takes a position that doesn’t fall within the plan or the strategy, well they know that it’s their fault for not following the plan. It’s an unfortunate truth, but in many cases the only way discipline can truly be learned is by seeing and feeling the ramifications of being undisciplined; and in trading, that amounts to losing money.

If you don’t feel that your trading plan is strong enough then change it; make it better. And if you need to build more confidence behind the strategy or strategies contained within the plan, do some testing until you get that confidence. With the availability and cost of demo accounts (free) – there is no excuse not to.

To speed things up, you can go through simulation with historical data to see how the strategy would’ve fared in the past. We discuss this process of ‘manual back-testing’ in the article, ‘Practicing the Art of Trading.’ That will allow you to get numerous simulations in a short period of time.

After that, you can take the strategy to a live demo environment… and once confident there; you can employ live capital behind the strategy that you know you want to be using in the quest for profitability.

I know that many traders, particularly new traders want to eschew this testing and building and formulating because, well it’s not all that much fun. But trading is not supposed to be entertainment. If you want entertainment, there are movies and music and all kinds of other things in this world to enjoy. Trading is a way to make (or lose) money.

Surely, there’s an emotional response that human beings get when placing trades… the potential to make or lose money brings on the excitement or thrill of ‘the chase.’

But losing money isn’t fun… making money is. Losing money is painful, costly, and psychologically-defeating. Over a long enough period of losing, most people will eventually abandon their efforts and look for greener pastures elsewhere (by quitting trading and giving up on their goals). And it’s all because that trader couldn’t control themselves enough to stick to their own plan.

Give yourself the best chances of success by choosing high-probability strategies that you’re confident in so that you can simply follow your own plan as opposed to ‘waking up in a new world every morning.’ 

 

3. Risk management is critical to short-term traders

One of the biggest misconceptions about trading is that winning percentages are the largest determinant of success. If you look at most other venues in modern-day society, winning is the only thing that matters.

In trading, this is somewhat deceiving; because the size of the losses versus the size of the wins takes on a huge level of importance. So much so that winning only 35-40% of the time could allow for profitability, while a trader winning 60 or 70% of the time could still be struggling while losing money (on net).

This was listed as The Number One Mistake that Forex Traders Make, and we explored this topic in-depth in the article, Top Trading Mistakes. In some currency pairs like GBPJPY, traders in the observed study won 2 out of 3 times (66% winning), yet they still lost money. And the reason for this is that the size of the losses was so large relative to the size of the average wins. If you want to learn more about that, please feel free to visit either of the aforementioned articles where this topic is explored in much more depth.

But many scalpers think or feel that looking for bigger rewards than risk amounts is simply impossible in the short-term; so they use wide stops and look to take ‘quick’ profits and they try to win 80 or 90% of the time. This doesn’t usually work out well. Why?

It’s because we can’t tell the future. No matter how strong your analysis, or strategy or trading plan – markets (and the future) will always be unpredictable.

Rather, trading is more about probabilities and trying to get the odds on your side, if even just by a little bit. And the shorter-term we get in our approach, the more unpredictable price action becomes. So short-term traders need to know how to lose properly, and when they do win, they have to look to maximize the potential of those scenarios. We talked about this topic in the article How to Reap Larger Rewards, in which we teach traders how to ‘scale out’ of winning positions after moving the stop on the trade to break-even.

In the example below, we see how important trade management can be. In the earlier mentioned webinar, I had taken a long EURJPY position into the European Central Bank Announcement this morning. 

 

Risk Management Matters…

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

 

Initially, this worked out well as a lack of a movement in European interest rates saw the Euro fly higher. I used this opportunity to move my stop to break-even, and I began to ‘scale out’ of the position (closing pieces of the trade) while it was ‘in the money.’

As Mario Draghi took the stage for the ECB press conference, prices continued to surge, and I used this as an opportunity to scale out of more of the position.

But then something changed, and because I was hosting a webinar at the time I didn’t know exactly what it might be. But the Euro stopped moving higher and quickly began throttling lower.

I knew something was wrong… so I closed out the remainder of the long position at my trailed stop of +20 pips from my initial entry price. This saved me and allowed me to keep a profit on the position. And then the Euro just continued to fall.

If not for the trailed stop, and the scaling-out that I had done while my trade was ‘in the money,’ I’d be looking at a loss on this trade. But, trade management saved me.

The lesson to take from this is that markets are unpredictable, whether we have an open position or not. Greed and fear often govern our decisions, which is why having a plan is so important. But focusing on risk and trade management is what allows for a trader to plan, strategize, and strive for long-term success with a short-term approach in markets.

New Traders Beware

In today’s day and age of high speed computers, lighting fast financial information, and data overload, diving into the world of trading can be a frightening challenge for a newcomer to say the least. Add on top of that deciding which strategy to use and it’s no wonder why so many traders fail. You can choose the path of fundamental analysis where you will focus on economic and financial reports to make decisions. You can focus on conventional technical analysis which is loaded with price patterns, indicators, and oscillators, and more. Maybe you want to combine the two like some people do and spend 23.5 hours a day crunching data and looking at charts and about 30 minutes for eating and sleeping. An alternative approach to trading may be something you are already very good at, properly buying and selling anything. Let’s take a look at the various ways people attempt to trade the markets, including the core strategy we employ at Online Trading Academy. Let’s explore these to simply figure out what makes sense.
During a live online trading session from last week in the XLT (Extended Learning Track), we setup some trades for our students. The screen you see below is one of two that begins all of our trading sessions where we lay out the entire trade for students. It was a buying opportunity in a stock, EMC.



The trade was to buy EMC at 24.94 with a protective sell stop at 24.81 and a target at 25.40 and 25.77. The demand level we were planning on buying at is shaded in yellow. I assume there is more demand than supply at that price level because price could not stay at that level and rallied. I know that this can only happen because demand exceeds supply at that level. Another word for demand is “wholesale.” So, if I am a smart buyer and seller of anything, I know that when prices are at wholesale levels, I want to buy from someone who desires to sell at wholesale levels. Isn’t that how every business makes money?

The EMC Demand Zone


 
Live Trading Session – EMC Returns to Demand: Time to Buy



During the trading session, the trade met entry as price declined into that level. What that meant was that someone was convinced that EMC was worth selling at our wholesale price which meant we wanted to buy. Shortly after meeting entry, price rallied and met our two profit targets for a nice low risk gain. Our simple rule based strategy has us buying at price levels where demand exceeds supply (wholesale prices) and selling at price levels where supply exceeds demand (retail prices). This may sound as too simple and boring but that’s the way I choose to do it. Let’s take a look at some alternative ways of trading and in doing this, let’s look at the same trade through the eyes of conventional technical analysis with indicators and oscillators and such.
The charts below are the same two charts with the same trade only I have added some popular indicators and oscillators to it. With all this added information on the chart, you would think that we are able to make a smarter trading decision but think again. First of all, the hardest thing to see on the chart are the candles and that is the most important piece of information for me (obviously not for the conventional T/A trader). The reason why I believe none of these things I have added to the chart help a trader is because they all lag price. They will simply do what price has already done. This means that if we add any of these indicators to our core decision making process, we are simply adding risk and decreasing reward. The goal is low risk entries and big profit margins. Notice all the moving averages on the chart. Most people will only buy when they are sloping up. Notice that when price declined into our demand zone and it was time for us to buy, the moving averages were all sloping down. This will always be the case which is why conventional T/A traders always miss the low risk entry.



Next, notice all the other squiggly lines on the chart, they actually would have hurt us with losses and high risk entries. And, what about ATR, Average True Range (ATR). I have absolutely no use for this and feel bad wasting time writing about it but I will for your benefit if you’re trying to make this work. ATR shows you an average of the prior ranges in price. The thought is that this will tell you what future ranges will be to potentially help with risk management. But what if I gave you a choice and said I could teach you how to use conventional ATR which looks at ranges in the past or I could teach you how to identify what the future range will be, what would you want to learn? I am sure your saying “future” ranges as that is the key information we all want to know, I agree. Well, if you want to know what the range in the near future is going to be, measure the distance between a markets “fresh” demand and supply levels. If they are far apart, the range is “going to be” large. If they are close to each other in price, the range is “going to be” small.
As I have said before, you can learn the book version of trading if you want to but make sure you find plenty of people making money from reading the books first. Or, you can learn to trade by focusing on the reality of how markets work and how money is really made and lost in markets. This means quantifying real demand and supply in a market and then buying low and selling high, just like you do in every other part of life. Simplicity is the key for us in XLT.

Taking Advantage of Missed Breakout Opportunities

Breakout trading is often associated with quick decision making and fast paced entries and exits, but it doesn’t have to be that way. Often times there are opportunities to get into a breakout trade well after the initial break. On top of that, there can be opportunities to enter into a breakout trade at a better price than what was originally presented. Today, we will discuss how to take advantage of missed breakout opportunities.

 

The Recent GBPUSD Breakout

The long term GBPUSD price chart is a prime example of a major breakout. We recently witnessed “cable” breaking to a multi-year high followed by a near-50 pip rally to breakout traders’ delight. If you were one of those breakout traders that participated, congrats. It was a good trade and I am happy it worked out for you. For the others that missed the break, don’t sweat it. These breakouts sometimes yield an opportunity to get in well after the initial break. Let’s take a look.

 

Trading the Breakout Pullback

In order to qualify as a breakout, price must break through a support or resistance level. (Do you understand these terms? Test your knowledge by taking our Technical Analysis Quiz). But after this break occurs, price sometimes will pullback to the support/resistance level that was originally broken. The old saying, “What once was support, can later become resistance (and vice versa)” applies to this situation. Price can bounce off this level and produce a trading opportunity.

In the case for the current GBPUSD breakout, we’ve seen exactly this. Two days after the initial break, price has returned to its prior resistance level, giving us a buying opportunity. Our trade idea is based on the idea that this resistance level will now act as support. This scenario can be seen in the image below.

 

Learn Forex: GBPUSD Pulling Back to Support After Breaking to a Multi-Year High

(Created using Marketscope 2.0 charting package)

 

So the initial break of the resistance area occurred two days ago, followed by another bullish blue candle. Today, GBPUSD fell heavily back towards the resistance area which now could act as support. This gives a buying opportunity (marked with a highlighted circle on the chart above) that actually gives us a better price to enter than the original breakout candle’s closing price.

 

Breakout Pullback Exit Plan

To exit this trade, we recommend using a 1:2 risk:reward ratio with a stop loss below the support/resistance area (around 1.6770) and a limit at least twice as far (around 1.6990). This will put our stop beyond the next closest support level and our limit underneath the psychological 1.7000 level. These orders should both reduce our risk and maximize our potential return from the trade. If you would like to explore other ways to exit this trade, check out my 3 Basic Ways to Exit Your Forex Trades.

 

Second Time’s a Charm

So next time we see a break out that we missed, know that it’s not a big deal. If we can be patient and wait for a pullback to the original support/resistance level, we can still get into the trade and possibly get in at a better price than what was originally available. This technique combined with a well thought-out exit strategy is worth testing using an FXCM demo account.

Top Trade Idea For May 1st, 2014 – EURJPY

It is a while since we didn’t look at the eurjpy pair and I would say that right ahead of the NFP and ECB we are having an interesting technical setup.

What you see on the chart above is the 4h time frame on the pair and one thing that strikes the eyes is an elongated flat right at the beginning of the corrective wave and from that moment on we are looking for a possible contracting triangle as these formations appear as the entire leg of a triangle or only as part of a leg of a triangle.

I would say that wave a blue there is a triple combination that is followed buy a contracting triangle as a b wave blue or a double combination for the same wave. It really makes no difference as the outcome should be the same: two corrective wave should be followed by either an impulsive move to the downside, and in this case it is a flat we are looking for, or another corrective wave that should for the c wave blue of a contracting triangle.

In both cased price should move to the downside on a break of 141.14 level and the first target should be 140, the psychological level, while the second and final target should be anywhere between 138.50 and 139 levels.

Why Traders Lose Money

While the title of this article can have broad implications with numerous explanations, we’re going to do our best to reduce the answer to this query to the most logical and basic explanation.

When a trader first gets started, it might be hard to imagine how getting control of losses can seem an impossible task. It may even feel like the cards are stacked against you… situations in which you’re right in your analysis, yet you still lose on the trade and watch capital disappear from your trading account.

So, a natural question is why some traders consistently make money while others lose, even when they’re right. That is what we will be investigating in this article.

The Difference between Trading and Analysis

Many new traders come to the market with a bias or point-of-view. Perhaps this is built from a background in economics, or finance, or maybe just a keen interest in politics. But one of the biggest mistakes a trader can make is harboring the expectation that ‘the market is wrong and prices have to come back.’

But let’s face it: Markets are unpredictable, and it doesn’t matter what type of analysis you use. As new information comes into the market, traders and market makers price it accordingly; because these folks don’t want to lose money just as much as you don’t want to lose money.

Is this to say that analysis is worthless? Absolutely not: It merely means that analysis is only a part of the equation of being a successful trader. Analysis is a way to potentially get the probabilities on the trader’s side, even if just a by a little bit; a way to maybe get a 51% or 52% chance of success as opposed to a straight-up coin flip.

Good analysis, whether it be fundamentally-driven or technically-driven, can be right a majority of the time. But no form of analysis will ever be right all of the time. And this is the reason that there is such a large chasm between analysis and trading.

In analysis, it doesn’t matter how wrong you are when you aren’t right. In trading, this matters quite a bit. Because even if you’re winning on 70% of your trades, if you’re losing $3 for every trade in which you’re wrong but only making $1 every time that you’re right, you’re still losing. It might feel good, because 70% of the time you’re walking away from your positions with the feeling of success; and as human beings this is something we generally strive for (to feel good).

The example below shows how bad risk management can destroy even a strong winning percentage of 70% success.

But logically, it doesn’t make sense to embark on this type of endeavor because the goal of trading is to make money; not necessarily to just ‘be right’ more than 50% of the time.

How to actually trade analysis

First thing first, traders need to crystallize what their actual goal is in trading in markets; and point-blank, that goal should be to make money.

After that, traders need to expect that they will, at times, be wrong.

So given these two facts, the next logical assumption is that without being able to control the damage from those instances in which we’re wrong, the prospect of profitability is a distant one.

So risk management isn’t just a preference or a style of trading: It’s a necessity for long-term profitability. Because even if you’re winning 90% of the time, the losses on the other 10% can far outstrip the gains that are made on the 90%.

I fully realize this isn’t necessarily exciting information. When I teach risk management, rarely do a see a student-trader ready to burst out of their seats to go and manage some risk. Most people want to hear about entry strategies, and analytical methods to try to get those odds of success tilted even higher in their favors.

But until a trader learns to manage their risk, much of this additional work is a moot point. Because as long as the risk exists that one bad position can and will wipe away the gain from many other ‘good’ positions; that trader is going to struggle to find profitability.

So, to properly trade analysis one needs to first observe proper risk management. Because trading isn’t just ‘guessing’ and ‘hoping’ that we get it right. Profitable trading is implementing analysis while properly managing risk factors; implementing a defensive approach so that when one is wrong, the losses can be mitigated and when one is right, profits can be maximized.

How can one begin to use ‘proper’ risk management?

We’ve already encountered one of the biggest mistakes of risk management, and that’s controlling the size of the losses relative to the size of the gains.

This was listed as The Number One Mistake that Forex Traders Make, and in the article The Top Trading Mistake, we looked at exactly how this problem can be so utterly damaging to new traders.

The solution is simple; implementing it not as much. As human beings, we often follow our gut instincts or our ‘feelings.’ But in trading, we have to keep the bigger picture in mind. When we place a trade, we often try to win on that one trade. This can keep traders holding on to losers for far too long, and closing out winners way too quickly.

Traders can adjust strategies to focus on lower-risk, higher reward types of setups

Image taken from How to Identify Positive Risk-Reward Ratios with Price Action; by James Stanley

The way to fix the Top Trading Mistake is to simply look to make more when you’re right than you lose when you’re wrong. That’s it. This can be done by setting stops and limits on every trade that is placed to reinforce that minimum 1-to-1 risk-to-reward ratio.

Unfortunately, risk management isn’t as simple as just setting a stop and setting a limit. After all, if a trader takes on a position that’s way too large relative to the size of their account, even if using a 1-to-2 or 1-to-3 risk to reward ratio; that one trade could completely wipe them out.

This is similar to the advice of ‘not putting all of your eggs in one basket.’ And while this concept is simple for equity investors that have seen stock prices fall off-of-a-cliff, highlighting the fact that investing in just one stock can be so dangerous, traders should look at the art of speculation in a similar light.

We discussed this topic in the article, Top Trading Mistakes, Part II: The impact of larger amounts of leverage. Not only does high leverage bring on a higher potential for failure, but highly-leveraged trades also amplify The Number One Mistake Forex Traders Make because more leverage amounts to even bigger swings in account equity.

We finished off the Top Trading Mistakes series with the third article, and this comes down to strategy selection. Even if a trader goes out of their way to prevent the top two trading mistakes, it doesn’t guarantee success. Holy Grail strategies don’t exist, and the best that a trader can do is to look to employ an approach befitting of that particular market’s condition.

If you’d like an example of how this can be done, the article How to Catch Swings in the Forex Marketshowed how traders can look to trade short-term reversals or swings with a constant eye on risk management.