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By Fred Razak*
Being able to identify the trend direction is a crucial skill in succeeding in online trading as following the trend makes it easier to maximize profits. However, trend trading is predominately a long-term trading strategy that requires patience and experience in market analysis.
What is a trend in forex?
Forex trading is a highly volatile market as currency pairs tend to be influenced by several factors throughout the daily trading session. When the price of an asset starts rising or falling it is considered to be trending – either to the upside or the downside.
If you take a look at the raw price action, without any additional technical indicators, the candlesticks may point to higher highs and higher lows for a certain period, which translates to an uptrend.
On the other hand, a downtrend is when the price starts sinking, and forms candles with lower highs and lower lows. However, some markets may be ranging between tight values which much movement in either direction.
These range-bound markets aren’t favorable to traders as they don’t experience strong moves and therefore don’t offer the high profit potential of trending markets that experience breakouts and reversals to take advantage and profit from.
How to identify forex trends
In order to identify trends, traders may employ the use of technical indicators such as the Moving Average. However, as already mentioned, you can also easily tell if the market value is going up or down by simply monitoring the price chart.
Despite the fact that you can determine if a trend is occurring by watching the recent price action, technical indicators can help you find the most favorable entry point to the market and better time your exit.
Timeframes also are extremely important in trend trading and traders who focus on long-term movements tend to focus on the higher timeframes in order to gauge the overall market direction.
Indicators that reveal the trading volume can also be utilized to confirm a trend as momentum builds up when there are more participators in the market and the underlying asset is actively traded.
How to trade the trend
After you have identified a trend, there are several different strategies you can take to trade the trend successfully.
Conservative traders for example, prefer to wait until the trend is confirmed. If a major support or resistance level is broken, you can enter the market in the direction of the trend and perhaps utilize a trailing stop to guarantee a favorable exit.
Another approach that carries a higher level of risk, but also offers higher rewards is to trade the retracements that occur during a trend. As the bulls and bears battle for dominance, the overall trend may be moving upwards, but the price is likely to be driven down for a short time due to profit-taking, as some buyers may close their positions prematurely to avoid risks.
These small stop-gaps in trends are more easily identified by looking at the smaller timeframes and some traders tend to watch the daily timeframe for any potential retracements.
If you are confident in your trading skills, you can also add to your positions to maximize your gains. If a trend is occurring, you can add to your investment in order to exploit the market’s tendency to correct itself after a short dip – especially during a trend with strong momentum.
In general, the most profitable way to trade a trend is to predict the movement beforehand, but even if you are late in recognizing the patterns, you can still make a substantial profit simply by waiting for a pullback and then make your entry as soon as the trend continues.
Your stops ideally would be placed according to your risk management strategy and most trades recommend that you don’t exceed a risk-to-reward ratio of 2:1. Even if you exit before the trend is completely over, you are still protected from any unforeseen reversal and hopefully secured enough profits to open larger positions in future.
Forex pairs offer equally high opportunities in both bullish and bearish markets and you can use a trend trading strategy regardless of the current economic outlook. As long as the currency pair you are monitoring is actively traded, you are likely to find opportunities to trade bullish or bearish trends.
If you want to learn more about the different strategies of online forex trading, open your CM Trading below to get in touch with your personal Trading Specialist.
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- Fred Razak is a senior trading expert at CM Trading.
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