Wednesday, 22 May 2013

Identify the Market and Trade Accordingly

Ralph Shell, Excel Analyst

What do we mean when we request you 'identify the market'?  Well, some markets seem to aimlessly meander like a river flowing over flat land, as it's waters move out to sea.  Other markets streak, either up or down - there is no question which way they are headed.  The only issue is how do we get aboard and ride the trend, weather it be up or down.

We offered some suggestions recently on how to find an entry point in a streaking market.  Trade in the Japanese yen this year has been a strong trending market, though not necessarily a streaking one.  The angle of accent, less than 45 degrees, seems orderly.  Why, then, do traders want to sell the USD and buy the yen, fading the trend?  Today, myfxbook community outlook showed their specs are 67% short the USD versus the yen.

Click to Enlarge USDJPY Daily Forex Chart

Everyone knows that the trend is your friend, so why not go with the trend?

Sure, we all know it will eventually change.  The longs or shorts will get flushed out, and the most recent high price longs or low price shorts will lose.  But why try to pick a market reversal?  What makes you think you are smarter than the market, and can pick a top, or a bottom?  You go with the flow, and take what the markets give you.  If you go with the market, money appears in your account.  Fight the market, and money disappears.

Trends in forex markets often last longer than expected, especially when they are the result of fundamental change of economic or political philosophy in one country. 

An example of this might be the current situation in France where the economy under the socialist Hollande is gradually shrinking.  Though the country has begun another recession, it is gradual, but the policies and restrictive work rules make a recovery unlikely.  The EU is about to have another economically sick member.

Markets, however, are not always in a readily identified trend.  Rather, they are range bound, though the range may have an upward or downward bias.  For the trader who fashions himself as a contrarian, it is better to trade these markets than those that are trending strongly.

Often different time frames give different signals.  Take a look at the 4-hourly chart of the USDCHF.  We begin in late April 2013 with a rally above the 200 period 4H SMA, followed by failure and a retreat to a low, followed by a range bound rally. 

Click to Enlarge USDCHF 4 Hourly Forex Chart

This pair seems like the pattern will continue until May 9th when the pair spurted top side above the 200 day SMA.  No longer bound by the range the USD charges up 300 pips.  Had you correctly identified the May 9th trade as a break out, you would have made good money.

Looking at the daily charts, that might have given us some additional inputs.  On April 16th and 17th there was a double bottom followed by a range bound recovery until the 24th.   The rally then fell short of the 95 handle and again sold off, but stayed well above the previous twin bottom.

Click to Enlarge USDCHF Daily Forex Chart

The next rally on May 9th was vigorous.  The follow through the following day blew through the congestion just shy of .9550 and continued to .9750.  The higher low on the 1st of May gave us a clue, and then it was followed the next week by the break out. 

We now continue to the weekly chart of the USDCHF.  First, we are now above the 200 period SMA.  The longer-term trend has changed, but that does not mean you buy at any price.  It looks like a retracement to the .9550 level, risking 100 pips is a good entry.  Longer-term, there appears to be some strong resistance above the .99 area which should be the target for the rally.  Hopefully, we now have a new, higher range.

Click to Enlarge USDCHF Weekly Forex Chart

As always, mind your money.
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