When trading Forex, one of the primary questions is whether to trade trend or range. Traders provide the answer by examining the price environment, which increases their chance for success. Trend and range are two very different price properties that require a different approach in terms of both mindset and money management. Trend trading is much more popular than range trading, though the Forex market accommodates both.
Trend trading attempts to make profits by riding short, medium, or long term price trends. In contrast, range trading attempts to make profits by buying and selling currencies between a lower support level and upper resistance level. In terms of trend, the simplest ways to indentify direction are higher lows during an uptrend and lower highs during a downtrend.
Some people define trends as deviations from a range. Others feel a trend happens when prices are contained within a 20-period simple moving average that slops upward or downward. No matter how a trend is defined, the goal of trading trends is to join the movement early and hold one’s position until the identified trend reverses. Trend traders think in terms of being out or being right. They are betting that the currency price will continue in the present direction of movement.
By its nature, trend trading results in more losing than winning trades and it necessitates that investors control risk. A rule of thumb is that no more than 1.5 to 2.5 percent of an investor’s capital should be spent on any trade. Adherence to such guidelines requires that traders have confidence that the market will have high liquidity. In terms of Forex, this is not an issue because it is the world’s most liquid market. Since the market trades 24 hours, five days per week, gap risk is minimized, making slippage less of an issue.
Profits can be large for trend traders who make correct predictions about their trades. This is especially the case when gains are magnified by high leverage, as with Forex. Trend traders can double their money within a short time if they catch a strong price move. To do this, traders must be disciplined enough to continuously take stop losses. This means that losses should be restricted to a pre-determined price level. In many cases, traders fight the market after they become dejected due to several consecutive bad trades.
Fighting the market may involve placing no stops, which makes leverage a dangerous thing. The double-edged nature of this concept comes out and can generate huge losses. This can result in traders suffering margin calls because their accounts fall below the minimum required to maintain an open position. Brokers can automatically close a trade, causing the trader to lose most of his or her speculative capital.
Being disciplined when trading trends can be very difficult because using high leverage leaves the individual little room for error. Trading using tight stops may result in up to 20 consecutive stops before a trade is found that is trending strongly in a direction and with great momentum. Thus, trend trading is not for the weak of heart.