Forex Investing Strategy for Newbies

Any long term investment strategy should ideally consist of multiple smaller strategies contained within a larger overall strategy. Excess volatility can lead to quick gains and substantial losses to your portfolio of currency pair positions. Long term forex investors look for areas of support/resistance, fib levels (with extensions), larger moving averages, and prior swing highs/lows to better their odds of a successful trading position. Well placed strategic entries are what separates the big boys from the rest of the forex crowd. There is a reason why only 5% or 10% of all forex traders succeed. They are the ones buying on the dips and selling into the rallies, when everybody else is late to the game. They are the ones that manage risk, limit losses, and maximize gains by strategically placed entries and holding their positions longer, taking partial profits, and letting the remainder of the position run on house money, until the trend is exhausted.  How do they know where a bottom or a top is? Everything we have learned about forex tells us that trying to pick tops and bottoms will bankrupt our account fast. But yet, the big boys consistently accumulate sizeable profits with fewer trades per month, holding winning positions until exhausted, covering their positions with a hedge when necessary, and placing their limit orders at major support/resistance. You can be assured that they are not trading the 15 min chart for their long term positions. They study the long term charts to see where the currency pair has been, where it has bounced, and where it is likely headed in the future.

Let’s take a look at the GBP/USD for example. Zoom out on your monthly chart, and you will see a strong uptrend from June of 2001 after making a low around the 1.3680 price. The Zig Zag indicator shows 3 waves up from June 2001, to the recent high at the 211.43 price. During this time, we have seen both the USD and the GBP experience interest rate increases, until the point where the Fed paused the rate hike pattern. BOE continued hiking until the swap differential swung toward the GBP. As the Fed began cutting rates, the differential increased, and the GBP/USD became a viable carry trade for a long position. Risk aversion and panic selling of higher yielding Yen pairs began to appear in 2007, and Market Sentiment turned extremely anti-dollar. You can clearly see on this monthly chart where the 2nd wave (corrective) ended and the uptrend resumed around 2005. Corrective wave 2 (down) lasted from Dec 2004 to Thanksgiving 2005. Take note that these trend changes occur around major holidays. Make sure to include this pattern into your long term strategy. Let’s examine this monthly chart a bit further. Notice the 5 sma channel formed by the 5 sma open , the 5 sma low,  the 5 sma high, and the 5 sma close. Notice the crossover of the 5 sma open and the 5 sma close on uptrends and downtrends. Notice how many times the price retraced to one of these sma’s and reversed. Notice how a reversal of trend occurs when the price closes above the 5 sma high, or below the 5 sma low. Observing the candle closes on the monthly, weekly, and daily charts in relation to the 5 sma channel will indicate what your position should be in any currency pair. Newbies should allow for volatility by placing stop losses above or below where the market is likely to bounce. Entries must be placed where the market is likely to bounce or continue. For this, we look at previous swing highs and swing lows on the larger time frames where price was rejected. It will usually take multiple attempts to break cluster support/resistance. So your entry should be placed at every major swing high and swing low. Stop losses are placed on the opposite side of these levels at a reasonably safe distance, which is not likely to be hit. A tight stop loss will be hit more often than not, then the price will retrace or reverse trend to your original entry. An entry closer to cluster support/resistance will allow for a tighter stop loss. Your risk to reward provides you with a higher probability of success. If the support/resistance breaks with a candle close, then you take a reasonable loss. You would then enter the new trend after the first retracement. Nearly all breakouts retrace before resuming. Your reward is a sizeable pip gain, much larger than your possible loss. So using a small “tester” size position is needed when placing these orders. The position is added to by selling into rallies on downtrends, and buying dips on uptrends, until your first partial take profit target is hit. Stop losses are moved to break-even or +1 after confirmation of trend. At this point you have a no loss trade. Once the close price breaks the 23 fib of the last high/low swing, you can be fairly confident that the 38 fib will be tested. Take partial profit when the 38 fib is touched. Expect a bounce there, then a resumption to the 50 fib if that bounce gets rejected by buying or selling interest. Use the candlestick formations to determine price action. Look for signs of reversal or resumption.

Looking at the monthly chart, you can see where the price is trading below the green 22 sma but above the 5 sma low. You can see a breach of the 5 sma low on the previous candle. This chart is telling us that more downside is coming in this pair. An April close below the 5 sma low will target the brown 55 sma at 1.8787. But USD aversion (if the Fed continues cutting rates) will leave room to the upside for a good carry trade until the BOE signals a cut. The market has already priced in some bearishness with a plunge from 211 to 1.96. Pay attention to housing in the U.K.  You can enhance your chart interpretation skills by drawing trendlines, and fibonacci retracements.

Here is the monthly chart of GBP/USD showing price respecting the previous swing high/low (red horizontal lines) as well as the 23 fib and a white trendline. 1.9550 area is a good entry for a long position upon confirmation of rejection. A break of this area will signal a downmove of several hundred pips and the 38 fib sitting at the 1.8300 area. Notice the bearish divergence of the momentum incators while price was rising.  This chart is telling us to expect a sizeable correction downward until market sentiment signals a return to USD aversion. Consolidation will follow soon, testing highs and lows until a breakout, so buy and sell orders at cluster support/resistance will pay off until the breakout occurs. Take advantage of range trade by covering your position with a short term hedge.

I have zoomed in the monthly chart of GBP/USD to show how the trendline and 5 sma low have both  been respected so far. The next downside target is a trendline alongside the brown 55 sma at the 1.8850/1.8750 area. If this support holds, then the upside targets are the 2.00/202 area with daily swap paid on a long position.