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Changing Strategies for Changing Market Conditions

Changing Strategies for Changing Market Conditions

2014-06-07 03:00:00
Rob Pasche, Forex Trading Instructor
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Talking Points:

  • Market conditions are constantly changing.
  • Low volatility can lead to range trading opportunities.
  • Slow Stochastic can help us find entries in low volatility conditions.

The Slow Stochastic is a popular indicator that I most often discuss when trading trends. But if we took the exact strategy I teach and applied it to periods of time when currency pairs were range bound, it is very likely that we would lose our shirts. To combat market conditions shifting, we need to alter our strategy to make sure it fits with what the market is giving us.

Today we will talk about how a trend based strategy can be changed to fit into a range bound market.

Surveying the Market

First things first, we need to be able to identify what conditions the market is in to begin with. How is this accomplished? There are two main sources I look at:

The Technical Analysis page tells us the general direction of each pair right now as well as its measured volatility. When we see pairs with less than 25% volatility, those are candidates for range bound strategies. When we see pairs with more than 75% volatility, those are candidates for trending strategies.

Learn Forex: DailyFX’s Technical Analysis Page – Trend & Volatility

Changing Strategies for Changing Market Conditions

David Rodriguez’s Weekly Strategy Outlook gives us similar data with more detail, but I particularly like the Volatility Index he tracks every Monday morning. This combines all currencies’ volatility over a long period of time and gives us a bird’s eye view on what the market is doing.

Learn Forex: FX Volatility Index – Decreasing Volatility in 2014

Changing Strategies for Changing Market Conditions

If markets overall are showing lower volatility, then I want to look for individual pairs that show low volatility and look for range trades. If markets overall are showing high volatility, then I want to look for individuals pairs that show high volatility and look for trend trades. In the screenshots above, it looks we should be looking for range bound trades in the USDJPY.

Placing Range Trades Using Slow Stochastic

Now that we’ve identified USDJPY as a candidate for range trades, we can add our Slow Stochastic indicator to the chart. I prefer using the settings (15, 5, 5) rather than the default (5, 3, 3). These settings slow down the indicator further and provides (in my opinion) more reliable signals.

During trending market conditions, I would look to see what the current trend is, and only place trades in that direction. Essentially, cutting out half of our potential trades. But since we are trading USDJPY in a range environment, we can place trades in either direction. This is how we adapt.

The classic entry signal for the Slow Stochastic is when the K and D lines cross while they are higher than 80 or lower than 20. We look to buy when the K line crosses above the D line while they are both below 20 and we look to sell when the K line crosses below the D line while they are both above 80.

Learn Forex: Slow Stochastic (15,5,5) on USDJPY – Range Trading

Changing Strategies for Changing Market Conditions

(Created using Marketscope 2.0 Charting Platform)

The image above shows two buy trades and two sell trades on a 4-hour chart. You are free to trade any time frame you would like. The Slow Stochastic will adapt to whichever time frame you select. The only criteria is picking the appropriate range bound pair, like in this example, the USDJPY.

Shaping Strategies for Success

Even the best strategies will suffer in certain market conditions. So it’s good to know their strengths and weaknesses and know when to adapt to changes in the market. The Slow Stochastic strategy for range trading was simple to create from my existing trend strategy so it was an easy choice. Are you interested in trading using this method yourself? Sign up for an FXCM Demo account risk free and begin trading today.

Good trading!

---Written by Rob Pasche

Ever wanted a tool to let you know what the strongest and weakest currencies were at a glance? Check out FXCM’s StrongWeak app!

DailyFX provides forex news and technical analysis on the trends that influence the global currency markets.

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