Today’s forex strategy article is not going to be your typical ‘how to do trend trading‘ article, where you see the perfect pullback setups, hear about ‘trading from value‘ , or ‘1, 2, 3 reversal patterns‘, or about ‘naturally occurring swing points‘. These “How to Trade Trends” articles paint a one sided picture on how trends work, but really fails to give you the underlying models and mechanics to trade trends profitably.
I’m guessing many of you have tried utilizing trend trading strategies, but either;
a) got stopped out trading the breakout, or
b) waited for a pullback that never came as the pair falls 100’s of pips flying to your target & no profits
c) maybe you got into the trend, only to find it to all of a sudden reverse on you
Has this happened to you before?
I’m guessing it has, so I’m going to share with you what you’ve been missing regarding trend trading, how to understand it, and when to know what strategies to trade and what to avoid.
The Most Critical Point to Know When Trading Trends: Learn to Identify the Type of Trend You Are In
Before you can decide what forex trend trading strategy to use, you have to understand the type of trend you are in. If you don’t understand the trend and price action underlying it, you’ll be looking to ‘trade from value‘ in a pullback when a breakout strategy is what you need to get in and profit.
On the flip side of this, you may be looking to trade a breakout, only to find yourself getting stopped out when you should have been looking for a pullback setup.
How do you avoid this?
Identify the price action and order flow underlying the trend correctly. A simple way to do this is to look at the number of counter trend players in the market, or “level of imbalance“. For example, a trend that is highly “imbalanced“, is either heavily bullish or bearish, and this will reflect in the price action. I like to look at it as either strong participation from the counter-trend players, or very little at all. Two charts below will give you a good idea what the two look like.
Looking at the chart above, we can see from the consolidation breakdout at the top left, the selling was quite impulsive and highly imbalanced in favor of the bears. 10 out of 11 candles closed bearish, or 40 out of 44hrs. This kind of price action trend shows very little presence of the bulls – so little they can only muster a single 4hr bull candle.
Looking for pullbacks in this type of trend trading will leave you missing the majority of the trend, while watching thousands of pips go by and no profits in your account.
Thus, in these types of trends, you want to be trading breakout strategies which will be highly effective since the momentum and order flow is behind you. Strong trends like these tend to support your breakout trade, and push the price action heavily in your favor.
Now take a look at a different example below, using the AUDUSD on the 4hr chart. You will notice in this chart, there is a much greater presence of counter-trend players, thus a less “imbalanced” trend. Although the bulls have control of this trend, there are a fair amount of sellers present as they are able to a) take control of an almost even mix of candles and b) push back much further on the price action.
During trends like these, breakout strategies will likely fail, and you’ll find yourself getting stopped out, only to find the trend resume shortly after.
Has this happened to any of you before?
It has to me, and I’m guessing you as well.
Along those lines, this would be an ideal order flow and price action trend structure to take a with trend pullback. This is same as trading from a ‘swing point’ or ‘value area’. Here is where this strategy flourishes, usually offering a clear pullback to either a) role reversal level, b) dynamic support/resistance 20ema, or c) a price action signal.
Does this make sense why your trend trades have not worked out before?
Can you see why you missed out on so many trends that kept on running like Forest without you?
Now you know why.
Understanding ‘value areas’, ‘1, 2, 3 patterns’, or ‘naturally occurring swing points’ is not going to give you the tools needed to understand how to trade trends in forex, or any market for that matter.
All of those are are “reactive” models – and essentially fail to give you the most important tool – that of understanding why type of trend you are in, and what is the order flow behind it. When you can understand what type of trend you are in, then you can correctly apply the strategy, price action setup, or proper tool trade that trend. Otherwise, you may be using a hammer when you need a saw, and thus either stopped out, or missing most of the trend.
It should be noted, that although trends are ‘relatively’ the same between markets, they are not the same between bullish and bearish moves. Bearish trends as a whole (across all markets) are generally much more impulsive and imbalanced then bullish trends.
This is mostly due to the emotions behind bull and bear trends
Generally bullish markets are much more euphoric and take more time to form or bottom, while bearish trends are typically characterized by fear, and are much more rapid and forceful. Take a look at any major sell-off on the daily/weekly chart on any pair or instrument, and you will see this clearly in the price action.
There is more to this, such as the order flow behind bear/bull trends, but the volatility, impulsiveness and level of imbalance is usually far greater in bear trends than in bull trends. A great example of this is in the weekly chart below on Gold.
While your at it, look at any weekly chart on the Dow, and major Index, or currency pair, and you will see bull and bear trends are completely different from an order flow perspective.
Another thing to point out is trading pullback setups, or from ‘value areas‘ (also trading from key levels) really only offers you one tool to trade trends, which by itself is very limited. Thus, beware of people painting a rosy picture when it comes to trends, as often times the clear pullbacks to role reversals aren’t there. Yet while you are waiting for one, you are missing out on a highly profitable trend right in front of you.
Thus, learn how to trade and read the order flow behind the price action, so you can understand what type of trend you are in, and what kind of participation is happening from both sides. When you have this information, then decide if you need to use missiles or guns. When you do, you’ll find yourself missing less of the moves, having more winners, and profiting heavily from these great trending plays.