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Trend Following: Should I Trade With Or Against The Trend?
A trend is basically defined as the general direction of price movements
. An uptrend is present when prices proceed to make consecutive higher highs (tops) and higher lows (bottoms). A downtrend is in progress when prices make a sequence of lower highs and lower lows. When prices move without any discernible direction, they are said to be trading sideways or in a range.The main aim of any forex trader is to minimize their losses and maximize their profits. Trend following is an excellent strategy to do this as they can exist for long periods of time even months or longer. If perform correctly, this type of trading has excellent profit to loss ratios and is the equivalent of you swimming with the tide.
However, long-term Trend Following is quite difficult for forex beginners to master although it can be extremely lucrative if achieved. A study of historical charts of any currency pair shows evidence of many long-term trends that existed for months if not years. In hindsight, trading such patterns looks relatively easy and very profitable. However, reality is a different story.
In real-time and as a trend forms and develops, you need to be patient when timing entry to the market, and you also need to be able to psychologically handle short-term severe dips in open equity.
Since the trade is supposed to capture a large trend, often spanning 1000's of pips, it needs to stay open for weeks or sometimes even months. That's why these trades are usually entered with very low leverage. This is a great trick to avoid losing substantial funds because of short-term price fluctuations.
You need to keep your eyes focused on the end prize and not any short term swings that may occur against your trade. These skills are not easy to master but are very lucrative if you can. If you want to be a long-term trend follower then you will need the courage of your convictions as well as tremendous mental discipline to ignore counter-trend swings and keep your eyes on the bigger picture.
In an attempt to overcome the strict mental discipline required for long-term trend following, many traders opt for the apparently easier choice of day trading. With this strategy, the intra-day charts (for example 5-minute, 15 minutes charts) of currency pairs are used to detect trends so that profits can be taken at a much quicker rate.
However, this strategy has many problems, mainly emulating from the fact that the data displayed on short-term charts is less reliable. In addition, support and resistance levels can have less prominence in many cases because Forex volatility can be so great that it can sometimes render patterns on 1-minute or 5-minute charts meaningless. If you do intend to use such a trading strategy then ensure that, before using it live, you test it thoroughly.
Another very popular forex strategy is trend retracements which has one major advantage, among others, that when doing so you are trading with the trend. Retracements are temporary price reversals that occur within a larger price trend or channel. But, how can you determine whether price is performing a retracement or undergoing a more major reversal? There are several key differences between the two such as the following:
Retracements are usually caused by small traders taking profits whereas full reversals are normally driven by large institutional selling and done with substantial trading volumes. Retracements are born normally after large price movements have occurred whilst reversals can occur at any time.
Retracements produce few serious chart patterns while reversals are capable of producing major chart formations such as double tops or head and shoulders etc. In addition, the lifespan of retracements are usually very short compared to reversals that are more permanent events.
If you intend to trade trend retracements, then you will also need to devise a technique to enable you to determine their scope. The most popular tools for undertaking this task are Fibonacci retracements, Trendline support and resistance levels and Support, resistance and pivot point levels.
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