2Bull Forex Blog

When developing your own forex trading style, there is a danger in becoming fascinated with indicators. The newer trader experiments with one, finds it doesn’t work so well, then switches to another, then another, etc.

The list below highlights 7 key indicators that can be woven into your forex trading style. You may not need to go any further than this. Stick with the 7, practice them, get to know them inside out, and get the satisfaction of developing your own successful forex trading style.

Indicator 1
Candlesticks – watch for a hammer, doji, head and shoulders pattern, 1-2-3 formation, double top or bottom.

Indicator 2
Trendlines – draw common sense trendlines across the highs in a downtrend or lows in an uptrend. Watch for price to break the trendline and come back and test it.

Indicator 3
MACD – Watch for a difference between the highs and lows of MACD and price. When there is divergence watch closely for a good entry point once price has shifted in the direction of the divergence.

Indicator 4
200 EMA – this indicator is an all time favorite for traders across the board. On higher time frames (1 hour, 4 hour, daily) take note whether price is above or below the 200 EMA to give you the sense of price direction.

Indicator 5
Pivot points – take note of previous support and resistance lines as price will come back to retest these levels time and time again.

Indicator 6
Fibonacci – learn how to use this tool well and take particular note of the 50 and 62 retracement levels, especially when they coincide with trendlines or previous support/resistance.

Indicator 7
Price itself – let price prove to you where it wants to go by setting entry orders rather than market orders when entering a trade. By setting an entry order, price has to reach the target you specify before pulling you into the trade.

Regardless of your Forex strategy, have you ever entered trades and shortly afterwards wished you hadn’t? The information that follows will hopefully cut down greatly on the number of trades that cause you heartache!

The MACD (Moving Average Convergence Divergence) indicator can add a degree of certainty to your Forex strategy.

As with any indicator, it is too risky to enter trades on this signal alone. However, as we will see, used with caution on higher time frames, it can help confirm you are going in the right direction and that your trade is higher probability.

First, let’s take MACD apart and describe it’s component parts.

The default MACD on most charting packages sets 2 EMA’s (Exponential Moving Averages) at 26 and 12 days.

This is represented by a colored line (color varies according to charting package) which crosses a different colored 9 EMA often termed the trigger line.

When MACD (the 12/26 EMA) crosses above the trigger line (9 EMA) upward momentum is indicated and vice versa.

A center line, or zero line, often called the water line is also shown in the MACD indicator. When MACD is above the water line an upward trend is indicated, when it is below the water line, a downward trend is indicated.

MACD also includes a histogram, small vertical lines that appear above or below the zero line, not unlike mountains and valleys in appearance.

MACD is a lagging indicator which follows price action.

The histogram is an indicator of MACD. So watching the histogram can give you an early indication of where MACD is going. The height of the histogram can be a good momentum indicator.

How can you use MACD to your advantage?

If you want to be very cautious in your Forex strategy, going only for high probability trades, then pay attention to MACD on the 4 hour and 1 hour charts.

Some traders will only enter a trade when the 4 hour and 1 hour MACD’s are going in the same direction. This will mean a lot less trades but the ones you do take are likely to be profitable. (Agreement of the two MACD’s is used in conjunction with other indicators, not by itself.)

MACD on the 1 hour chart is particularly powerful. If you want to stay out of trouble and avoid trades you might later regret, NEVER trade against the direction of the 1 hour MACD. To do otherwise is not necessarily foolhardy if you know what you are doing.

But for the newer, less experienced trader, only trading long when MACD has crossed up, or short when MACD has crossed down on the hourly chart when your other favorite indicators line up, will make for a higher success rate with your Forex strategy. It will also save you much anxiety and heartache!

The lesser known Forex strategy revealed here can make a big difference to your profits.
Getting in at the optimum level results in more pips which can accumulate steadily.

Two methods of drawing trendlines are:

1. The common sense method. By just running the eye over a candle chart, it is easy to identify a series of lower highs or higher lows. Drawing a trendline across the tops or the bottoms will indicate where price is likely to bounce in the future.

It is not necessary to be obsessive about the trendline having to touch exactly all the highs and lows. In some cases they may touch the bottom of some candle shadows, in other cases, they may touch the bodies of the candles.

2. The Tom DeMark method. Tom DeMark, a highly respected market analyst, suggests connecting the last high with the previous high in a downtrend and extending the line past current price action OR connecting the last low with the previous low in an uptrend and extending the line past current price action.

Highs are candles that have lower candles adjacent to them on the left and right and lows are candles that have higher candles adjacent to them on the right and left.

These trendlines can be regularly updated as new highs and lows are formed.

Many traders enter a trade on the break of a trendline as part of their Forex strategy. That works for many.

However, there is a way to use trendlines to ensure an optimum entry point.

Often, not always, price will break a trendline and move away 10 or 20 pips. Then, it comes back to test the backside of that trendline. That’s where you enter the trade.

If the trendline break coincides with your other favorite indicators such as pivot points, Fibonacci calculations, set an entry order for price to take you in when it comes back to test that level.

That way you enter the trade at an optimum level and squeeze even more pips out of the move.

Of course, price may not come back to test the backside of the trendline so your order doesn’t get taken in and you miss the move. No problem. As a trader patience is an essential quality you develop as a part of your Forex strategy. You simply wait for the next time!

Ignore candlesticks at your peril when developing your Forex strategy. Candlesticks contain a huge amount of information about the market. Learn to read candlesticks like a book and greatly enhance the profitability of your Forex strategy.

Used by Japanese traders for centuries, the Western world has only recently (since around 1991) become aware of their value due to the work of Steve Nison.

Candlestick charts are now the preferred medium for probably the majority of traders due to their visual impact. Like bar charts, candlestick charts are based on four main pieces of information relating to the timeframe of the chart (15 minute, 1 hour, 4 hour, daily, etc.) - the open and close prices for the timeframe, plus the high and low points during that period.

However, by representing this information graphically, in the shape of a candle, the trader is able to absorb a glut of information about a single trading period with just a glance.

So learn to read candles well - your Forex strategy will be more solid as a result.

What you can read from a single candlestick?

Certainly not enough to base a trade upon. However, a distinctive single candlestick in conjunction with other indicators can be very significant.

When reading candlesticks it helps to think of the battle constantly going on in the market place between the bulls and the bears. A candlestick will tell you how the battle went during any given period.

Take for example a candlestick on the hourly chart which has a long solid body and very small shadows if any. If the color of the candle is green, or whatever color your charting package uses when a candle closes higher than when it opened, it means either the bulls are in firm control or there was little or no interest from sellers.

If the candle is red, or whatever color your charting package uses when a candle closes lower than when it opened, it means either the bears are in firm control, or there is little or no interest from buyers.

If the solid body of the candle is small but there is a long upper shadow and a long lower shadow, it means during that 1 hour period, the bears took the trade to the lowest point, the bulls took the price to the highest point, but neither could maintain the position so the end of the period is close to where it was at the beginning.

Get a series of those candles and the market is obviously in an indecisive state, or reconciled to trading within a range for the foreseeable future, until a further stimulus comes along, such as a fundamental announcement, to cause price to break out of the channel.

Candles come in all shapes and sizes with very distinctive names such as spinning tops, doji, hammers, etc.

Learning to read candles in conjunction with understanding other technicals such as pivot points and support/resistance lines, Fibonacci retracements and trendlines can add real power to your Forex strategy.

Remember, when browsing your charts, every candle tells a story. It’s up to you to decipher and interpret the significance. The level of skill you develop in doing so will be a major factor in developing a profitable Forex strategy.

Fibonacci can be a very valuable addition to the tools in your Forex strategy, even if you are a reasonably new trader. Experiment with the guidelines below and learn to do the Fibonacci two-step. The level of success with this tool is quite amazing.

Fibonacci levels indicate more often than not how far price is going to go before it stalls and pulls back. It also provides a number of levels where price can pull back or retrace before moving on in the direction of the trend.

The 4 most common retracement levels are (figures rounded off) 1. 38%, 2. 50%, 3. 62%, and 4. 79%.

The two most common extension levels are 1.27% and 1.62%.

Using the Fibonacci tool that comes with most charting packages, simply drag the tool from the most recent swing high/low to the previous swing/high or low and take special note of the 50% retracement level.

In a nutshell, the Fibonacci Two-Step means you set an entry order to be pulled in if and when price touches the Fib50% retracement level, and you set your target at the Fib1.27% extension level.

However, for these trades to be high probability with minimal risk a couple quick calculations are necessary.

What is your stop value? 25-30 pips? If it’s more can your equity cover it if you lose the trade? For many traders 25-30 pips is a reasonable stop.

So before entering the trade, measure the distance between the Fib50% retracement level, your possible entry point, and the Fib79% retracement or even the 100% level. If it is more than 25-30 pips, pass on the trade. The risk is too great. If price pulls back further than the Fib50% level even all the way back to the last swing high/low, you will be in trouble.

However, if the Fib79% or 100% level are within 25-30 pips of your entry at Fib50%, you have a possible trade.

Now calculate how many pips from Fib50% to the extension at Fib127% - this will be your profit ratio. Supposing your stop is set at 25 pips, perhaps somewhere between the Fib79% retracement level and the swing point, and your target at the Fib127% extension is 36 pips, that’s a good risk/reward ratio! You are risking 25 pips to get 36.

It is often advisable to set your target 3 or 4 pips above the Fib127% level as sometimes price doesn’t quite make it before it pulls back.

Use this strategy in line with your other indicators and trade in the direction of the trend for minimal risk.

Why is this strategy so successful? Because it’s not too ambitious.

Price will often pull back to the Fib50% level and no further. It will often go to the Fib127 and no further. So using these two levels puts one on middle ground with a higher chance of getting taken into the trade with the target successfully met.

So if you are looking to improve your Forex strategy, remember the amazing Fibonacci Two-Step – In at Fib50 – Out at Fib127 – and dance all the way to the bank.