Should You Trade Trend or Range in Forex

Whether trading stocks, futures, options, or foreign exchange, traders must decide whether to trade trend or range. And they answer this issue by analyzing the price environment; doing so correctly increases a trader’s chances of success significantly. Trend and range are two unique price qualities that necessitate nearly opposite mindsets and money management strategies. Fortunately, the FX market is well-suited to both approaches, providing profitable chances for both trend and range traders. Because trend trading is so popular, let’s look at how trend traders can gain from FX first.

Trend

What is the current fad? Higher lows in an uptrend and lower highs in a downtrend are the most basic indicators of trend direction. Divergence from a range, as illustrated by Bollinger Band® “bands,” is one way to identify trends. For others, a trend is established when prices are contained by a 20-period simple moving average that is slanted upward or downward (SMA).

Many forex traders choose to trade currency pairs based on current market conditions. Simply expressed, a currency is said to be going up or in an uptrend when it is clearly advancing in one direction with little opposition. Higher swing lows and higher wing highs are typical indicators of an upswing.

When their analysis implies there is an opportunity for more upward, traders seek to take advantage of a strong trend. Of course, a trend persists until it ceases to exist. To put it another way, a trend is your buddy until it breaks down and begins to exhibit erratic behavior.

Come In early

Regardless of how trend trading is defined, the goal is the same: get in early and stay in the trade until the trend reverses. The trend trader’s core thinking is “I am right or I am out.” All trend traders make the implicit bet that price will continue in its current direction. If it doesn’t, there’s no incentive to keep the trade going. As a result, trend traders often trade with tight stops and make numerous probative ventures into the market before making the correct entrance.

Liquidity

Trend trading, by its very nature, produces significantly more lost transactions than successful trades, necessitating strict risk management. Trend traders should never risk more than 1.5-2.5 percent of their capital on any single trade, according to conventional wisdom. Stops as small as 15-25 pips behind the entry price are possible on a 10,000-unit (10K) account trading 100K standard lots. To use such a system, a trader must be confident that the market being traded will be extremely liquid.

Of course, the foreign exchange market is the most liquid in the world. The currency market eclipses the stock and bond markets in size, with an average daily transaction of US$6.6 trillion. Furthermore, the FX market is open for business 24 hours a day, five days a week, removing most of the risk associated with exchange-based markets. Gaps do arise in FX, but not nearly as frequently as they do in stock or bond markets, making slippage significantly less of a concern.

Large Profits, High Leverage

Profits can be tremendous when trend traders are correct about the transaction. This is especially true in the forex market, where huge leverage increases gains. If a trader with 100 times leverage recognizes early signals of a trend, he or she may double their account balance in one deal. Such an opportunity, such as the British pound’s post-Brexit movement, may only come around once every few decades, but it’s exactly what knowledgeable traders are looking for and ready to seize.

If the EURUSD pair gains more than 10 cents, a $10,000 account with a one-lot purchase would make roughly $12,000 in a few months.

A range trader, on the other hand, would have good motivation to make the same transaction at the same time. They will, however, have pre-defined exit points because they are relying on earlier indicators. As a result, rather than allowing a momentum trade to run its course, a strict range trader will sell the pair for a modest profit and not think twice about it.

Trend Is The Winner In Risk Management

Because of the leveraged structure of their account, forex traders must adhere to strict risk management guidelines.

Trend trading is the safer of the two trading methods for traders aiming to limit their losses. After all, a trade’s success or failure is almost immediately apparent. The trade will be beneficial if the pair continues to rise. Tight and rigorous stops will force a trader to quickly leave a losing deal.

In fact, the idea of a range trade is to ignore any short-term volatility. A range trade is based on the premise that a currency pair will eventually return to the target price. A deal may go horribly wrong in the first few days or weeks, but it may play out exactly as planned in the long run.

The only issue is that a trader could have depleted their account amount while waiting on the sidelines.

The Market Wins Every Time

However, only a few traders have the discipline to consistently take stop losses. After a string of unsuccessful transactions, most traders get obstinate and fight the market, frequently placing no stops at all. When it comes to FX leverage, this is when it can be the most dangerous. The same technique that delivers large profits can also produce large losses. As a result, many irrational traders face a margin call and lose the majority of their speculative cash.

It can be incredibly tough to trade trends with discipline. When a trader employs enormous leverage, there is extremely little tolerance for error. Trading with extremely tight stops might lead to a string of 10 or even 20 stop outs before the trader finds a trade with high momentum and directionality.

Range Restriction

As a result, many traders choose trading range-bound methods. Please keep in mind that when I say ‘range-bound trading,’ I’m not referring to the traditional understanding of the term. Trading in such a price environment entails isolating currencies that trade in channels, then selling at the channel’s top and purchasing at the channel’s bottom. Although this can be a very profitable strategy, it is still a trend-based strategy—albeit one that forecasts an impending countertrend. (After all, what is a countertrend if not a trend in the opposite direction?)

Range

True range traders are unconcerned about the direction of the market. The core concept of range trading is that the currency will most likely return to its origin, regardless of which direction it travels. Range traders, in effect, wager on the chance that prices will trade through the same levels repeatedly, with the intention of profiting from those oscillations over and over again.

Clearly, range trading necessitates a fundamentally different approach to money management. Range traders prefer to be wrong at the start rather than seeking for the perfect entrance. This allows them to build a trading position.

Trading within a range is based on past data. Traders anticipate that history will repeat itself, as the name suggests. As a result, previous support levels indicate a buying opportunity, while previous resistance levels indicate a selling opportunity.

Prior resistance and support levels that have been consistent over a two-year period are more likely to work as a trading technique than those that have been stable over a three-month timeframe. Range trading, like trend trading, is a trading method that works until it doesn’t.

Incorporating It Into Your Day-to-Day Routine

Consider the EUR/USD pair, which is now trading at 1.3000. A range trader might elect to short the pair at that price and every 50 pips higher, then buy it back as the price drops every 25 pips. Their expectation is that the pair will eventually recover to the 1.3000 level. The range trader would win handsomely if EUR/USD rises to 1.3500 and then falls to 1.3000, especially if the currency goes back and forth in its climb to 1.3500 and falls to 1.3000.

However, as we can see from this example, a range-bound trader will require a lot of money to put this approach into action. In this situation, using high leverage can be disastrous because positions can often go against the trader for several points in a row, triggering a margin call if they are not careful before the currency eventually comes around.

Range Traders’ Solutions

The FX market, fortunately, offers a flexible solution for range trading. Instead of 100K lots, most retail FX traders offer small lots of 10,000 units. Because each individual pip in a 10K lot is only worth $1 rather than $10, the same hypothetical trader with a $10,000 account can have a stop-loss budget of 200 pips rather than merely 20 pips. Even better, many dealers allow consumers to swap in increments of 1,000 or even 100 units. In that case, our 1K unit range trader might sustain a 2,000-pip decline before triggering a stop loss (because each pip is now worth only 10 cents). This flexibility provides plenty of room for range traders to execute their ideas.

In the forex market, nearly no one charges a commission. Customers just pay the margin between the bid and ask prices. Furthermore, most dealers will quote the same price regardless of whether a buyer wants to buy 100 or 100,000 units. As a result, unlike the stock and futures markets, where retail clients are frequently forced to pay exorbitant charges on relatively little trades, retail speculators in FX are not subject to such restrictions. In fact, a range-trading technique may be implemented on a $1,000 account if the trader sizes their transactions correctly.

Final Thoughts

Trend-following methods may be a better overall strategy since they provide greater profit possibilities and a more stringent risk management strategy. Of all, there is no such thing as a one-size-fits-all method, and range traders will naturally differ.

Traders can use a paper account to test which of the two tactics works best for them. Traders can even devise their own method that incorporates both beliefs.

Whether a trader wants to smash home runs by trying to catch strong trends with high leverage or simply hit singles and bunts by trading a range strategy with small lot sizes, the FX market is ideal for both. The trader will have a decent chance of success in this market provided they remain disciplined about the expected losses and comprehend the many money-management techniques involved in each strategy.

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