Top 8 Forex Trading Strategies and their Pros and Cons (Part 1)
Main talking points:
- What is a Forex Trading Strategy?
- Forex Strategies: A Top-level Overview
- Price Action Trading
- Range Trading Strategy
- Trend Trading Strategy
- Position Trading
- Day Trading Strategy
- Forex Scalping Strategy
- Swing Trading
- Carry Trade Strategy
WHAT IS A FOREX TRADING STRATEGY?
Pipscollector.com - A forex trading strategy defines a system that a forex trader uses to determine when to buy or sell a currency pair. There are various forex strategies that traders can use including technical analysis or fundamental analysis. A good forex trading strategy allows for a trader to analyse the market and confidently execute trades with sound risk management techniques.
FOREX STRATEGIES: A TOP-LEVEL OVERVIEW
Forex strategies can be divided into a distinct organisational structure which can assist traders in locating the most applicable strategy. The diagram below illustrates how each strategy falls into the overall structure and the relationship between the forex strategies.
FOREX TRADING STRATEGIES THAT WORK
Forex trading requires putting together multiple factors to formulate a trading strategy that works for you. There are countless strategies that can be followed, however, understanding and being comfortable with the strategy is essential. Every trader has unique goals and resources, which must be taken into consideration when selecting the suitable strategy.
There are three criteria traders can use to compare different strategies on their suitability:
- Time resource required
- Frequency of trading opportunities
- Typical distance to target
To easily compare the forex strategies on the three criteria, we've laid them out in a bubble chart. On the vertical axis is ‘Risk-Reward Ratio’ with strategies at the top of the graph having higher reward for the risk taken on each trade. Position trading typically is the strategy with the highest risk reward ratio. On the horizontal axis is time investment that represents how much time is required to actively monitor the trades. The strategy that demands the most in terms of your time resource is scalp trading due to the high frequency of trades being placed on a regular basis.
1. PRICE ACTION TRADING
Price action trading involves the study of historical prices to formulate technical trading strategies. Price action can be used as a stand-alone technique or in conjunction with an indicator. Fundamentals are seldom used; however, it is not unheard of to incorporate economic events as a substantiating factor. There are several other strategies that fall within the price action bracket as outlined above.
Length of trade:
Price action trading can be utilised over varying time periods (long, medium and short-term). The ability to use multiple time frames for analysis makes price action trading valued by many traders.
Entry/Exit points:
There are many methods to determine support/resistance levels which are generally used as entry/exit points:
- Fibonacci retracement
- Using candle wicks
- Trend identification
- Indicators
- Oscillators
Within price action, there is range, trend, day, scalping, swing and position trading. These strategies adhere to different forms of trading requirements which will be outlined in detail below. The examples show varying techniques to trade these strategies to show just how diverse trading can be, along with a variety of bespoke options for traders to choose from.
2. RANGE TRADING STRATEGY
Range trading includes identifying support and resistance points whereby traders will place trades around these key levels. This strategy works well in market without significant volatility and no discernible trend. Technical analysis is the primary tool used with this strategy.
Length of trade:
There is no set length per trade as range bound strategies can work for any time frame. Managing risk is an integral part of this method as breakouts can occur. Consequently, a range trader would like to close any current range bound positions.
Entry/Exit points:
Oscillators are most commonly used as timing tools. Relative Strength Index (RSI), Commodity Channel Index (CCI) and stochastics are a few of the more popular oscillators. Price action is sometimes used in conjunction with oscillators to further validate range bound signals or breakouts.
Example 1: USD/JPY Range Trading
USD/JPY has been exhibiting a prolonged range bound price level over the past few years. The chart above illustrates a clear support and resistance band which traders use as entry/exit points. The RSI oscillator demonstrates timing of entry/exit points as highlighted by the shaded blue and red boxes – blue: overbought and red: oversold.
Range trading can result in fruitful risk-reward ratios however, this comes along with lengthy time investment per trade. Use the pros and cons below to align your goals as a trader and how much resources you have.
Pros:
- Substantial number of trading opportunities
- Favourable risk-to reward ratio
Cons:
- Requires lengthy periods of time investment
- Entails strong appreciation of technical analysis