Big Mistake Leads Technical Trader to Top Three Tools
I’ve been trading the markets for nearly 20 years - There’s been ups and down. Along the way you try to find what style trading works best for your personality and goals. Sometimes this process can be orderly and structured- it wasn’t for me.
The 116 Death Trap
Developing your strategy comes at a cost –often a lot of time, money and frustration. I came to this realization in 2003 as USD/JPY was pulling back from multi-year highs. The ‘116 death trap,’ as I’ve dubbed it, was a seemingly rock solid zone of support. It had caught the lows since 2001 with numerous defenses suggesting a perfect opportunity for me to ‘catch the lows’ and cost average in. Even when price broke, my hope was that every rebound was the low. Not quite. In September of 2003, the death trap began with a drop of more than 12% over the next year, taking USD/JPY to lows not seen since the late-90s. Even a glimmer of hope offered by a multi-week rally in early 2004 reversed. With the pain finally too hard to tolerate, I exited at the lows. So much for cost averaging into a loser. That was my hard lesson learned.
USD/JPY Daily Price Chart
Where did I go wrong?
Well, there was a lot, but for starters, emotions are not your friend. Most of all, my error was not having a plan and not recognizing market conditions. Knowing the style of trading that works best for your personality, risk tolerance and goals is critical and without a plan you are on a ship without a rudder.
Everyone comes to this realization differently. I learned through years of managing market flow for one of the first brokers to offer online retail FX trading. It was through close observations of retail market flow and tracking near-term price-action that Ideveloped three basic principles for my technical trading strategy. It boils down to assigning a value for price, time and momentum.
Price Value – Key reversals, Fibonacci, High/Low-day Closes
It’s all about the levels – identifying support / resistance is a critical part of being able to create actionable trade ideas targeting or countering key levels in price. These lateral levels can be identified using various methods. The three I rely on most are key reversals (outside-day reversals), high and low-day closes and Fibonacci.
The word “Fibonacci” often appears in trading and it is likely that you have already seen or heard of it -- for good reason. It is a simple measurement based on the golden ratio of 61.8%. This ratio can be observed everywhere in nature from trees to galaxy formations and is also very relevant to buying and selling behavior in markets. It is a tool you can implement in both trending and range-bound markets to help identify areas of possible support / resistance. We have a lot more in the education section: Fibonacci Application in Financial Markets (dailyfx.com)
Time value indicator – Slope and Trend lines
One discipline I rely heavily on is pitchfork and median-line analysis. The goal of this style of analysis is to identify the slope or gradient of a given market in an attempt to highlight when a price level may be significant. It is this time value that adds another dimension to the lateral levels identified earlier – these “confluence zones” are often points in price and time that can offer major pivots in near-term price-action. Trading into / off these inflection points todayform the basis of my favored technical trade setups.
Momentum value – RSI
The speed of a market can tell The Relative Strength Index (RSI). The RSI is an oscillator that is used as a measure of momentum -- the speed of the recent price movement in either direction. While all oscillators are inherently backward looking, they can still be of value when you are trying to asses when the market maybe overextended in either the overbought or oversold conditions. The ability to assess the inertia of a given market is critical for near-term swing and trend trading as it offers a window into the possible longevity and strength of a given move as well as ideas on when it may expire.
Having a multi-faceted approach that takes into account price value, momentum value and time value could help steer you not only to possible opportunities, but also help you avoid failure. Knowing the condition of the market using price, time and momentum has been a major philosophy of my trading.
Learn more about Technical Indicators Defined and Explained
---Written by Michael Boutros, Technical Strategist with DailyFX
Follow Michael on Twitter @MBForex
DailyFX provides forex news and technical analysis on the trends that influence the global currency markets.