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Adjusting to Changing Market Conditions

Adjusting to Changing Market Conditions

2011-12-20 22:12:00
Richard Krivo, Trading Instructor

When markets are not trending as strongly as they once were, one need not abandon a former strategy entirely. Perhaps just some “tweaking” might be in order.

Let’s say that a longer term trader was using the Daily chart to determine the trend and their entry signal was based on a break of support or resistanceon a lower time frame… the 4 hour chart for example. They can keep that same strategy but just shorten up the time frames to accommodate a market that is more volatile, moving more quickly and trending over a shorter duration.

As the movement of the currency pairs becomes quicker, we can “speed up” our charts (drop to a lower time frame) so they will alert us in a more timely fashion when a move occurs. By so doing, a trader will receive entry signals sooner permitting them to enter trades more quickly than they normally would using a longer term strategy. (Keep in mind however that the “quicker” the entry signal, the more likely it becomes that a trader will enter a trade based on a “false entry” signal.)

For trend determination, a trader may shift to a lower time frame such as a 6 hour or a 4 hour chart instead of the Daily. If their entry had been based on the 4 hour chart they may choose to drop to a 1 hour or a 30 minute chart for the entry. Even though the lower time frame is being used, the entry signal would remain the same: a break below support in a downtrend or a break above resistance in an uptrend.

So the strategy essentially remains the same, you are just adjusting it to reflect the market conditions in play at the time.

In addition to changing chart time frames relative to the more volatile market conditions, a trader can also “speed up” any indicators that they may be using in their trading. For example, instead of a 200 SMA they may shorten up the number of periods and drop to a 100 or 50 period SMA. By lessening the number of periods, the indicator will become more sensitive to recent price fluctuations.

Think of this tweaking a strategy almost like driving. When the driving conditions change, the basic “rules of the road” remain the same; but, depending on the type of road conditions, you will “tweak” your driving technique accordingly. For example, under normal driving conditions if a driver follows the rule of leaving one car length between you and the car ahead of you for every 10 mph, in snow/ice/rain they may adjust that driving rule and allow two or more car lengths to accommodate the riskier conditions.

Bottom line, as conditions change, be they in driving or trading, our actions need to adjust to reflect those changes.

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