School
What is Forex Trading Forex and how does it work?
Intoduction
Forex or Foreign Exchange is the simultaneous buying of one currency and the selling of another. Currencies are traded in pairs. The Forex Market has more buyers and sellers and daily volume than any other market in the world and takes place in major financial institutions across the globe. The forex market is open 24 hours a day five days a week.
Buying/Selling
In the forex market, currencies are always priced in pairs and all trades result in the simultaneous buying of one currency and the selling of another. The objective of currency trading is to buy the currency that increases in value relative to the one you sold. If you have bought a currency and the price appreciates in value, then you must sell the currency back in order to lock in the profit.
Quoting Conventions
Currencies are quoted in pairs. The first listed currency is known as the base currency and the second is called the counter or quote currency.
Currencies are quoted using five significant numbers, with the last placeholder called a point or a pip
For example a EUR/USD quote 1.1345/1.1350
Like all financial products, forex quotes include a “bid” and “ask” or a —sell“ and a —buy“ price. By quoting both the bid and ask in real time, brokers ensure that traders always receive a fair price on all transactions. As in any traded instrument, there is an immediate cost in establishing a position. This cost will vary between the different brokers and is sometimes called —spread“.
For example, USD/JPY may bid at 131.40 and ask at 131.45, this five-pip spread defines the trader‘s cost, which can be recovered with a favourable currency move in the market.
Margin
The margin is a performance bond, or good faith deposit, to ensure against the total loss of your account. Trade stations have margin management capabilities. In the event that funds in the account fall below margin requirements, the broker‘s dealing desk will close all open positions. This prevents clients’ accounts from falling into a negative balance, even in a
highly volatile, fast moving market.
The new NFA rule requires a minimum 1% margin at all time to maintain an open trade. (Note this may change from time to time so although we use 1% as the example at some stage in the future the margin maybe different. However using similar calculations one can easily calculate the new margins) Some deal stations automatically calculate this according to the
formula and hence the margin requirements are continually varying.
Based on a 1% margin requirement
Example 1: GBP/USD
rate: 1.7442/1.7447
account type: 100 000/lot account
1% leverage: 100 000×0.01 (1%) =1000units
When you are long (buy) GBP/USD, the margin required is:
1.7447 (GBP/USD) x1000 (units of base currency GBP) = USD1744 for each lot.
Some brokers require $1,800 margin for GBP pairs.
Example 2: EUR/USD
rate: 1.2326/1.2331
account type: 100 000/lot account
1% leverage: 100 000×0.01 (1%) =1000units
When you are long (buy) EUR/USD, the margin required is:
1.2331 (EUR/USD) x1000 (units of base currency EUR) = USD1233 for each lot.
Some brokers require $1,300 per lot in margin for EUR based pairs. In general, a margin of $1,300 allows you to control a $100,000 spot currency position. This is an efficient use of trading capital as the leverage in futures and stock markets is much less.
Example 3: Where the USD is the BASE currency, the margin requirement is
USD1000
(ie 1% of 100 000)
When you are long (buy) USD/CAD, USD/CHF etc the margin required is: =
USD1000 for each lot.
Forex Market and Locations
The forex market is a seamless 24 hour market and is open 5 days a week. At 5 pm Sunday, New York time, trading begins as markets open in Sydney and Singapore. At 7 pm the Tokyo market opens, followed by London at 2 am and finally New York at 8 am. (Time is based on New York time) As a trader, this allows you to react to favourable/unfavourable news by trading
immediately. The trading of forex takes place all over the world and is not located in any one central location. Deals are done between a variety of traders, from banks to managed funds to individual traders
Size of the Forex Market
Forex trades approximately US$1.85 trillion a day and is by far the most liquid market in the world. It takes the NY Stock Exchange THREE MONTHS to trade the same USD value as the forex trades each and every day making it the largest and most liquid market in the world. This market can absorb trading volume and transaction sizes that dwarf the capacity of any other
market. If you compare this to the US$30 billion per day futures market, it becomes clear that the futures markets provide only limited liquidity. The forex market is always liquid, meaning positions can be liquidated and stop orders executed without slippage.
Brokers and Market Makers
Market Maker – One that consistently makes two way prices, providing both a bid and an offer. Unlike brokers, market makers trade their capital
Broker – An individual who matches buy and sell orders in return for a commission. The bid and offer prices are those of the market participants and not of the broker.
Currency Pairs
Traders can trade a variety of currency pairs, limited only by which pairs each broker provides. Major currency pairs are typically the USD pairs for example
EURUSD GBPUSD AUDUSD USDJPY USDCHF
Cross currency pairs are pairs which do not involve the USD for example
EURGBP EURJPY GBPJPY EURCHF
EUR= Euro, GBP= Pound, CHF= Swiss Franc, JPY=Yen, AUD= Aussie $
Point/Pip Values
Point/Pip values is the US$ value for each Point/Pip (these are typical values and can vary between the different Brokers and Market Makers)
Regular Mini
Euro = $10 ($1)
Pound= $10 ($1)
Australian Dollar= $10 ($1)
Swiss Franc CHF= $7.60 ($0.76)
Canadian Dollar CAD= $7.30 ($0.73)
Japanese Yen = $8.45 ($0.85)
Major Market Participants
Traders include Governments, Reserve Banks, Large Mutual Funds, Banks,
Companies, Hedge Funds, Individual Traders.
Fundamental or Technical
The two basic approaches to analysing the currency market are Fundamental
Analysis and Technical Analysis. The fundamental analyst concentrates on
the underlying causes of price movements, while the technical analyst
studies the price movements themselves.
Fundamental Analysis
Fundamental analysis focuses on the
economic
social
political
geopolitical forces
These drive supply and demand.
Fundamental analysts look at various macroeconomic indicators such as
economic growth rates,
interest rates,
inflation,
unemployment, etc.
However, there is no single set of beliefs that guide fundamental analysis. There are several theories as to how currencies should be valued. Do not try and analyse the fundamentals unless you are a financial expert. Let the experts do this and follow their lead by reading the charts. Be aware when announcements are due. Sometimes the experts are wrong and get caught by unpredictable actions.
Technical Analysis
Technical analysis focuses on the study of price movements. Historical
currency data is used to forecast the direction of future prices. The premise of technical analysis is that all current market information is already reflected in the price of that currency, therefore, studying price action is all that is required to make informed trading decisions.
The primary tools of the technical analyst are charts. Charts are used to identify trends and patterns in order to find profit opportunities. The most basic concept of technical analysis is that markets have a tendency to trend. Being able to identify trends in their earliest stage of development is the key to technical analysis.
The best stop loss with fibonacci trading
Stop Loss
Forex is a highly volatile market. he exchange rate can move 150 points or more in a matter of minutes, especially if there is major announcement or central bank intervention. For example, when Alan Greenspan made a comment and around the same tme the Japanese Government intervened in the market, the affected currencies moved significantly.
One must use a mental stop loss or enter a stop loss or risk losing most or of one’s capital. Immediately entering the “market at order”, a stop loss must be placed. It is a pre-calculated price where you plan to exit the trade if the market moves against you. It forces you to folow an exit strategy getng you out of the market at around the nominated exit price. If possible, it is wise to place the stop loss just above or below a resistance or support line.
A stop loss should never exceed your maximum exposure amounts. One should never increase your stop oss after you have entered a trade and established your stop price.
RISK TO REWARD RAIOS are important and should be calculated.
A risk reward ratio of 1:1.5 is recommended.
Risk. 30 pips to make a profit of 45 pips or risk 40 pips to make 60 pips.
The best location for placing stops is:
15 pips above the last swing high for a SHORT trade and
10 pips below the last swing low for a LONG trade.
An alternative place for a stop loss would be just past the next Fibonacci level, e .g buy at 61.8% retracement and place the stop loss below 78.6% retracement.
It is stl important to apply the above calculations for your risk/reward. If stops exceed the risk/reward calculations, seriously consider not entering the trade.
Moving Stops
It is important to protect your profit. One way is to use a moving stop loss. When the trade becomes profitable, you move the stop loss to reduce your risk.
If the Stop Loss is 40 pips with 1:1.5 risk reward ratio, you are risking 40pips to make 60pips profit.
• When the market moves 10 pips in your favour, move the Stop Loss 10 pips. Your Stop Loss wil now be reduced to 30 pips.
• Continue reducing the stop loss each tme the market moves another 10 pips in your favour. Your stop can eventually be moved to your entry point and give you a “free” trade.
• When the market reaches 75% of your original target for profit, begin progressively tghtening the distance of your stop from the current market price.
• If there is no sign of a market reversal, take off your lmit order and continue to use the moving stop technique to protect profits and ride the trend.
• If there is strong evidence of a market reversal, close your posion with a market order and consider opening a new posion going in the new direction. You wil need plenty of practice to do this lve. We know that after a big rally there is always a consoldation which is basically a retracement to a Fibonacci level.
You need to have a stop that does not folow the market too closely. The noise or whipsaw in the market can be 20 – 30 pips or more and wil take out stops that are too small. It is suggested that stops should be at least 30 to 40 points in most cases, especially in the early part of a trade. However, the best posion for stops is above and below points of resistance or support as mentioned above.
Fibonacci Convergence or Confluence
Take Fibonacci retracements and projections from a number of different lows or highs to find a level where 2 or more retracements/projections are at the same level. This wil give a level with a strong possibilty of a turning point.
Convergence is when the coincidence of 2 or more Fibonacci price relationships comes together with a relatively tight range.
For example, a Fibonacci convergence is where a 38.2% off one high and 50% off another and a 61.8% off another, converging on the same area of the chart. A Fibonacci extension can converge with a Fibonacci retracement creating a bounce.
Two Fibonacci retracements have been drawn on the chart above from two different low ponts. Three cluster points are drawn:
A - where the 61.8% and 32.8% retracements concide.
B - where the 38.2% and 23.6% retracements concide.
C - where the 61.8% and 100% retracements coincide.
Trade Examples:
Example 1.
GBPUSD 30 min chart.
In the chart above, we have a classc ABCD pattern where the entry point is at point C, a 76.4% retracement and a Morning Star Candlestck Pattern.
The point C was at 76.4% and not 61.8% (76.4% is popular on the GBPUSD), but by waitng for the candlestck pattern i.e. the Morning Star we found confirmation of the reversal and a good trade to point D the 161.8% projection.
Note also the point C was close to a Double Bottom with point E and formed a Higher Low Pattern with point 1
Example 2
GBP/USD 4hr
Looking at the GBPUSD 4 hour chart we have the two trade examples:
1. Entry at Point B on the Bull Engulfing candle with a Target Exit at the 61.8% retracement of the move A to B
2. The ABCD pattern with entry at C being the 61.8 % retracement of the move A to B confirmed by the double bottom at pont C or the Bull Engulfing candle above C. he trade exits are at 161.8 % projection at D or the 261.8% at E. Either exit gave very good trades. Note there is a Fibonacci convergence at point E.
Note that point D also forms a Double Top with point A. This convergence of the Double op and the 161.8% projection increases the relabilty of the exit point.
Example 3
GBP/USD 4hr
Again using the ABCD pattern another good long term trade with entry from the 61.8% retracement confirmed by a Higher Low Chart Pattern.
Exit at point D the 161.8% Projection of the move from point A to point B…
Example 4
GBPUSD 4 Hour
In this example, the candlestck pattern is a Bearish Rejection Pattern which is a convergence of candles at a resistance lne, a 50% retracement. Note how the currency pair was rejected at this level.
The first target point 161.8% of the move from point A to point B at D provided a small support where the price pulled back a small way before continuing down. his was caused by traders exitng the trade at and around that point.
Example 5
EUR/JPY 30 minutes
This example is a trade off the 30 minute chart. Note how the currency pair set up by retracing to pont C which happened to be a 50% retracement point before continuing short. his could also be called a “bull trap” as a trader could have entered long at B, only to find the trade rapidly reversed. It is important to watch the price action on and around the major Fibonacci levels. Because the trend was down, good traders would have waited for the reversal at C before placing short trades.
Note how the strong short move stopped close to the 161.8% projection of the move from point A to point B. This is where most of the traders took their profits, causing a pullback.
Example 6
GBPUSD 30 minute
This is a simiar example to the previous example with the retest of the point A only reaching 76.4% at point C. Again point C provided a good entry point for a long trade. A Morning Star Candle Pattern provides the entry confirmation.
Example 7
GBP/USD haurly
In this example we see how a good trade can be taken from the Double Top / Evening Star at point B with target 61.8% retracement.
The chart above shows how effective the 61.8% Fibonacci retracement is. A long trade placed just above the “Point C” provided a very profitable trade. Entry is confirmed by the presence of a Morning Star Candlestck Pattern at “point C” and the convergence of the 61.8% retracement with a Support Line.
The Exit Points are shown on the folowing chart.
Note the area of consoldation / retracement as the GBP retraces from point B down to C at 50% before continuing to point C at 61.8%.
Also notce how the GBP retested point B (forming a Double op and Evening Star) before retracing. This retestng of previous Highs and Lows happens frequently. (Forming Double ops / Bottoms or Lower Highs or Higher Lows)
Example 8
GBP/USD 1h
The chart above is the same as the previous chart, but shows the Fibonacci projections. A long trade placed at “C” with targets of:
1. 161.8 at “D”
2. or 200% at “E”
3. or even 261.8% at “F”
provide profitable trades. Note how the price has consoldated or turned at the major Fibonacci levels.
The Fibonacci levels can be used on any tme frame and the concept is the same. Hence they can be used for posion trading through to intra day trading.
Note the consoldation areas at or close to major Fibonacci levels. here is a consoldation just below the 161.8% projection level. The different charting software and price feeds do not always give exactly the same Fibonacci levels. This often happens and traders need to be alert for this and respond accordingly.
Trading the Fibonacci levels
Introduction:
The Fibonacci levels are a very powerful tool in trading forex. They can be traded in isolation or in combination with other signals, for example candlestcks, indicators or chart patterns. In this book we wil use confirmation signals for entry and exit points.
Buy setups include bullish engulfing candlestck, morning star, tweezer bottom, double bottom and a break of the high of an inside bar. Sell setups include bearish engulfing candlestck, evening star, tweezer top, double top and a break of the low of an inside bar
The methodology wil be demonstrated using real examples using charts and explanations.
One can apply these methods on any tme frame from 5min charts through to weekly charts.
When puttng Fibonacci levels on the charts, one must look back on each tme frame for significant highs and lows. his may involve looking back days and even weeks. here are traders trading all the different
me frames so Fibonacci lnes drawn on weekly or monthly charts wil affect the market. Convergence of different Fibonacci levels may occur from levels placed on the different tme frame charts. Where convergence occurs, the levels become more significant. It is important to look for convergence with Support and Resistance Levels and Trendlines
Fibonacci Retracements
Retracement trading is safer than breakout trading .he main levels to watch are:
38.2%, 50%, 61.8% and 78.6%. (or 76.4%)
The market wil typically retrace after a strong move before continuing .The market won’t always hit these levels exactly. For example, price may reverse mid way between 50% and 61.8% sometmes. Price can under shoot or over shoot a Fibonacci level .The 61.8% and 76.4% retracements are very popular levels for the market to retrace to. Watch these levels on the different tmescales. It is best to wait for a confirmation signal at or close to point C before entering a trade. The difficult part about trading Fibonacci retracements is knowing which level wil hold.
For a buy, price should rise from a swing low at point A to a swing high at point B and retrace to
point C at a Fibonacci level. A swing low is a C bar turning point .The low of the middle bar is the lowest
point of the swing.
For a sell, price should drop from a swing high at point A to a swing low at point B and retrace up to point C. Look for intra day highs and lows, daily highs and lows, 2 day highs and lows and 3-5day highs and lows etc.
Candlestck patterns are most relable near Fibonacci levels and other support and resistance lnes. Candlestcks are also good for signaling the end of a retracement.
Double tops and double bottoms often appear at Fibonacci levels e.g. 61.8% retracement or the 1.382% extension.
Example of a Sell setup a lot more here short trades
Example of a Buy setup and a lot more >> long tardes
Fibonacci Extensions, Expansions or Projections,
Target point D (Profit Objective) and retracement pont C can be calculated by measuring the number of pips from point A to point B and multplying by the factors below:
|
Fibonacci Target |
Formula for points CorD |
|
38.2% |
(B-A) x 0.382-B = C |
|
50% |
(B-A) x 0.5 – B = C |
|
61.8% |
(B-A) x 0.618 -B = C |
|
78.6% |
(B-A) x 0.786 – B = C |
|
100% |
(B-A) x A + A=D |
|
127% |
(B-A) x 1.27+ A=D |
|
161.8% |
(B-A) x 1.618+ A = D |
|
200% |
(B-A) x B + A = D |
|
261.8% |
(B-A) x 2.618+ A=D |
Most charting software has these extensions available so calculations are not needed.
For a retracement, left click on point A, drag the lne to point B, then release the mouse. For an extension (projection), left click on point B, hold, and drag the lne to point A and release.
Commonly, 61.8% retracements go to at least the 161.8% projection. Sometmes the 100%, 200% and 261.8% extensions come into play.
A lot of money has been made using the ABCD (also called 1234) patterns using retracements to enter and extensions to exit. Enter near point C and exit at point D.
The best way to determine whether a move is a pullback (retracement) or not is to determine whether the price is moving in the direction of the main trend. If the price is moving against the main trend watch for reversals at the 38.2%, 50%, 61.8% or 78.6% Fibonacci Lines. Sometmes the price wil consoldate at one or each of the levels before continuing. Hence it is important to wait for a confirmation signal before re-entering in the reverse direction.
The chart below ilustrates this. In the move down from A the GBPUSD consoldated at B the 38.2% retracement. Note there is no reversal signal here and that the GBPUSD then continued retracing until it reached the 61.8% level. Here there is a Morning Star Candlestck Pattern and a Support lne providing a reversal signal at point C and convergence with 61.8% retracement.
Introduction to Fibonacci Numbers
The Fibonacci series of numbers are
1 , 1 , 2 , 3 , 5 , 8 , 13 , 21 , 34 , 55 , 89 , 144 ,…
The numbers are calculated simply by adding the two previous numbers together.
E.g. 3 + 5 = 8
5 + 8 = 13
8 + 13 =21
etc.
In forex, the Fibonacci ratios are used extensively to calculate targets for exit points and entry points for trades. These Fibonacci levels are relable as a large number of professional traders use them, and when this happens the traders, in mass, drive the prices to these levels.
Let’s look at how the ratios are derived
Take four sequential Fibonacci numbers
Eg 13,21,34,55
By dividing one number with another we get the ratios.
13/21 = 0.618 or 61.8%
34/55 = 0.618 or 61.8%
34/21 = 1.618 or 161.8%
55/34 = 1.618 or 161.8%
21/55 = 0.382 or 38.2%
13/34 = 0.382 or 38.2%
The square root of 0.618 = 0.786
And the square root of 1.618 = 1.27
In Forex trading the key Fibonacci ratios are
0.382 38.2%
0.50 50%
0.618 61.8%
0.786 78.6% (76.4% is used on Metatrader charts 38.2 x 2 = 76.4% and 1- 34/144 = 0.764) (Price often bounces off an exact 76.4% retracement level and 76.4 is being mentioned by various forex brokers)
1.382 138.2%
1.618 161.8%
2.618 261.8%
On my blog You can find a lot of examples that this numbers works very well. Why? It’s simply the biggest traders use this numbers and it couse the moves.
How to start?
There’s only one way to be profitable trader. I will show how to do it, but DON’T miss any point of this.
- Find some good technic or sytem to trade with.
- Write trading plan… i’ll show You later how it should looks like
- Test Your technic on demo first (minimum three months), as close trading as You can
- While You trading on demo write Your jurnal!!
- Open small real account to start trading with Your trading plan
- While You open and close trades always note it in Your jurnal.
I will post more soon about 1,2,5 points.
Why test my system on demo acc first so it works?
Becouse not technic or system will be trading !! You will be trading. Two tarders using the same technic will have difrent profits or even one might have loss and a second will be still profitable maybe a few pips. System what You choose depend on You and has to fit to Your mind. So testing system on demo account save Your money for sure. You will also see difrents trading Your money or demo money. Second thing less important is that system will not be good all over the time. So check if it still work!!
What for should I write down notes from my trades?
Writing the jurnal, You will see Your bad habits and when You can start to fught with them.
Example of bad habits.
Some poeple close their orders too soon so, they cut they from higher wins. Other close too late on also close small.
Key to be profitable
What is the real key to be on rihgt side of your account amount?
It’s simple there’re only two real variables :
win/loss ratio It’s an avarage of Your win to Your loss should be minimum 1.5, so if Your avarage loss is 100$ You need at least 150$ of Your avarage win. Higher w/l ratio it’s better for You.
win % It’s simply how often You have right. So how many times You get Your profit.
Which of these You should take more care?
Of course win/loss ratio, why? becouse You don’t have any idea what will be Your win%. You simply don’t know if be right 40% or 45%.
So remember Your win sould be large and losses have to be small.