Studying the forex chart is greatly difference from the stock/commodity/future charts. Applying technical indicators for the forex market has to be more refined since:
1: 24 hours Trading
Forex trading starts every week from Monday to Saturday (Malaysian time). The starting time of trading on Monday morning varies among the forex brokerages, so is the ending time on Saturday.
Some brokerages allow you to place orders on Monday morning as early as 2 am Malaysian Time while some others start at a later time like
In between the starting time and the ending time, it is 24 hours trading all its way.
Forex 24 hours trading is very different from, say, 24 hours trading on the index futures. Let take a look at emini S&P traded 24 hours at CME Globex. Its underlying index S&P 500 is updated in
Comparing that to forex market, every trading day there are three (3) distinguish time period that forex market gets very busy. That is, the start of the business day for
In short, the 24 hours trading in forex increases its overnight risk significantly comparing to stock and index futures. That is a good reason why protective stop orders should be used if you are carrying your position overnight in forex, because while you are sleeping someone else is actively trading it in other parts of the world. As for me, the best solution is to be a day trader.
2. The Daily Bars are not Really Daily Bars
Since almost different brokers quotes a different set of closing prices for the day, there is no real meaning to what we known as daily price bars. The net change from the previous trading day has a different meaning for traders using
When the daily price bars are not consistent, that affects the validity of the so-called pivot points indicator. Different traders will have a different set of price levels calculated, depending on their location, and time range they use for the construction of their daily prices.
Long term trend lines analysis is also affected by the inconsistencies of daily bars. As oppose to using the trend lines in a very precise manner, you may have to relax the condition and/or wait for confirmation from the prices before you can tell if your trend lines are holding up or being violated in real-time.
3. Historical Data Consistency
Day trading markets are usually provided by an exchange (such as the Chicago Mercantile Exchange (CME) in the US, the London Stock Exchange (LSE) in Europe, and Bursa Malaysia or the Hong Kong Futures Exchange (HKFE) in Asia). The exchange handles every order and every trade for their markets, and is aware of every trade that occurs, so the last price is well known.
Day trading markets in stocks, futures, commodity markets have three separate prices that update in real time whenever the markets are open. These prices are known as the bid, the ask, and the last price, and together, these prices provide a complete picture of the current state of the market in question.
Forex markets are not provided by an exchange. Forex trades take place directly between the two traders involved, and nobody else need even be aware that the trade has occurred. This means that the last price is not generally known, and is therefore not available for use by us for charting purposes.
Forex historical charts are constructed from the bid and ask streams. Charts provided by brokers could be either using the bid stream or ask stream as the reference price for the construction of historical data. And, for some forex brokerages, they take the mid-point value between the bid and ask prices for the construction of the historical data series. There is no volume analysis therefore tick analysis is not possible.
For developing your trading strategy based on technical analysis, you have to know clearly how your historical data is constructed. If it is bid stream based, all the buy side market orders will be off by at least the spread. For example, your brokerage offers 3 pip spread for trading EUR/USD. Then if you back test your system against the historical data provided by this broker, your historical market buy orders will be filled at the bid price, not the ask price.
If the historical data is constructed from historical ask stream, the inverse is true - the historical sell orders will be off by at least the spread size.
4. Slow Period
Normally during periods where most market participants are not working, you will find the forex market becomes extremely slow. For example, near the end of Asian session and before the London session and after general US market close at around 4 am Malaysian Time, there is quite a number of hours before Asia financial markets open. During this period of time, the market actions will be very slow and affecting many oscillator based indicators.
Most momentum type or oscillator type indicators do not work well when the underlying price series has a prolonged period of time staying in a tight range. Traders can stop trading during these slow periods to avoid the noisy signals, or, using higher time frames like 2-hour bar or 3-hour bars to get better overall reading of the current market condition.
5.Gaps
Because the FOREX market works five days a week around the clock (in contrast to other financial markets), we don't see classical gaps the way they appear on future and stock markets. As is generally known, a gap is a break between two consecutive bars on the chart, when the low of the previous bar is above the high of the previous one or the high of the previous bar does not reach the low of the bar directly following it. Such gaps, in their classic description, are very rare on the spot currency market. Nevertheless, breaks on exchange rates charts exist, though they look a little different than they are described in technical analysis books.
Gaps with reference to the FOREX market are formed more often between Saturday and the following Monday, and are very rare in the middle of a week. They look like breaks between the closing price of the previous day (and accordingly the previous week, if this day is Saturday) and the low or the high of the following trading day (occasionally also all of the following week).
Most of the time, the market comes back to the gaps a bit later and completely covers the price break formed on the chart. The gap identification is very important but usually I don't trade on return and closing of such a gap. Formed some time back, a gap gives me additional confidence if my position is open toward a gap, and provides a warning signal if the position has been opened in the opposite direction.
6. Leverage
When a stock trader executes a buy order, he deposits at least 50% of his purchase. If a Forex trader also deposits 50% of his purchase, there would be no need to distinguish between their stop-loss orders. But in most cases, the Forex trader is more leveraged. Some times close to 100-to-1; which mean to trade $100,000 of currency, with a leverage of 100-to-1 or a margin of 1%, a trader will only have to deposit $1,000 into his or her margin account. This leverage of this size is significantly larger than the 2:1 leverage commonly provided on equities and the 15:1 leverage provided by the futures market . Therefore, we need adjustment to place a Forex stop-loss to accommodate for the extra exposure.
There is also a difference in the technicals. In stocks, participants tend to cluster around levels outside formation boundaries or defined by clear support or resistance parameters. At times, that is workable because stocks usually move a few percentage points at a time. In this situation, even if you are at maximum allowable stock leverage, your loss is still manageable since the largest portion of your assigned capital is still available.
If no leverage is used, the loss has even less of an impact. By the same token, when a Forex trader buys a currency lot and deposits the full amount of $100,000, the currency fluctuation is likely to have a minimal impact. In this case, the application of a stop loss order based on support and resistance would be adequate. But forex traders do not deposit the full amount of their position.
In commodities, stop loss orders are sometimes misnomers. That is because commodities can move the limit, meaning there can be no ‘exit door’. A recent example happened in the Cattle market when the mad cow disease surfaced in the
Given these disparities between stocks, commodities and Forex, the Forex trader needs to approach the function of stop loss orders from his unique perspective. And because each different leverage position demands its particular considerations, there is no ‘one size fits all’.
The one concept flexible enough to satisfy most conditions pertains to placing stop-loss orders based on dollar amounts. As such, where a position is exited will have a direct relevance to each individual trader’s circumstances, irrelevant of market conditions. If a Forex trader takes a position at 100-to-1 leverage, it makes no sense placing a stop-loss order at some support level that is 2% away from his entry.
One cannot lose sight of the fact that if one loses 50%, one needs to double the money to come back to even. If traders insist on looking for support or resistance parameters to place protective stops, they need to lower their leverage to 20-to1 or less.
Finally, as told by one seasoned trader; the purpose of technical analysis is not to predict where and when the market will go, as many traders think.
The FOREX market is densely filled with technical traders and, for this reason, the formations frequently do not fulfill their destination to give traders reliable signals to enter a market and make some projection for the future.
Therefore our main goal as analyst is to define in advance the critical points or levels. Then, based on this research, you can build a trading strategy for the next trade.
We are not predicting only reacting.
