2Bull Forex Blog

Richard Donchian was born in Hartford, Connecticut in September 1905 was born over 100 years ago and although the vast majority of traders have never heard of him yet, he is one of the most influential traders of all time and the father of technical trend following.

Many modern trend following systems, such as the Turtle Trading system, are based on his work and legendary trader Richard Dennis was a huge fan and Ed Seykota used him as an inspiration.

Richard Donchian didn’t begin trading his successful trend following system until the age of 65. He started making large returns after that and continued to trade until into his 90s - showing your never to old to trade. While he operated mostly in the field of commodities his technical analysis is applicable to any market.

His 4 week trading rule system has been at the heart of many successful trading systems and is one of the simplest, easiest and most profitable ways to trade trending markets.

People tend to think complicated is better but the 4 week rule is simplistic but will get you on the right side of every profitable trend and help you make money.

Apart from the 4 week rule he did a lot of work with a five and twenty day moving average crossover signal system and used buy and sell rules using a weekly time period.

The following trading guidelines were first published in 1934 and there are applicable today as they ever were and are re-produced in their original format below:

General Guides

1. Beware of acting immediately on a widespread public opinion. Even if correct, it will usually delay the move.

2. From a period of dullness and inactivity, watch for and prepare to follow a move in the direction in which volume increases.

3. Limit losses and ride profits, irrespective of all other rules.

4. Light commitments are advisable when market position is not certain. Clearly defined moves are signaled frequently enough to make life interesting and concentration on these moves will prevent unprofitable whip-sawing.

5. Seldom take a position in the direction of an immediately preceding three-day move. Wait for a one-day reversal.

6. Judicious use of stop orders is a valuable aid to profitable trading. Stops may be used to protect profits, to limit losses, and from certain formations such as triangular foci to take positions. Stop orders are apt to be more valuable and less treacherous if used in proper relation to the chart formation.

7. In a market in which upswings are likely to equal or exceed downswings, heavier position should be taken for the upswings for percentage reasons - a decline from 50 to 25 will net only 50% profit, whereas an advance from 25 to 50 will net 100%

8. In taking a position, price orders are allowable. In closing a position, use market orders.”

9. Buy strong-acting, strong-background commodities and sell weak ones, subject to all other rules.

10. Moves in which rails lead or participate strongly are usually more worth following than moves in which rails lag.

11. A study of the capitalization of a company, the degree of activity of an issue, and whether an issue is a lethargic truck horse or a spirited race horse is fully as important as a study of statistical reports.

Technical Guides

1. A move followed by a sideways range often precedes another move of almost equal extent in the same direction as the original move. Generally, when the second move from the sideways range has run its course, a counter move approaching the sideways range may be expected.

2. Reversal or resistance to a move is likely to be encountered:

- 0n reaching levels at which in the past, the commodity has fluctuated for a considerable length of time within a narrow range

- On approaching highs or lows

3. Watch for good buying or selling opportunities when trend lines are approached, especially on medium or dull volume. Be sure such a line has not been hugged or hit too frequently.

4. Watch for “crawling along” or repeated bumping of minor or major trend lines and prepare to see such trend lines broken.

5. Breaking of minor trend lines counter to the major trend gives most other important position taking signals. Positions can be taken or reversed on stop at such places.

6. Triangles of ether slope may mean either accumulation or distribution depending on other considerations although triangles are usually broken on the flat side.

7. Watch for volume climax, especially after a long move.

8. Don’t count on gaps being closed unless you can distinguish between breakaway gaps, normal gaps and exhaustion gaps.

9. During a move, take or increase positions in the direction of the move at the market the morning following any one-day reversal, however slight the reversal may be, especially if volume declines on the reversal.

His work has stood the test of time and you can still trade using the above rules as you could 100 years ago markets still move to the influence of greed and fear as they did 100 years ago and the above guidelines will never go out of date.

Richard Donchian may not be that well known but when a man can influence some of the greatest traders of all time like Richard Dennis, you know that he has something worth saying, he was a true market legend who traders everywhere can learn from.

The equation in this article is the equation that makes market price move and if you don’t understand its significance you are 100% guaranteed to lose and join the 95% of traders who lose their money, so here it is:

Fundamentals (Supply and demand news) + Investor Perception (The sum total of opinions) = Price

IT MAY BE SIMPLE BUT:

Let’s looks at how people don’t stop to digest its significance when implementing their forex strategy.

We all have the facts - there for all to see but we all make subjective judgments based upon what we see (and we all see things differently) and the total mass of humans observing the facts is the price.

So what is the best way to trade?

Well first let’s look at what won’t work and a huge number of traders make the following mistakes and burn their equity.

- Any Method That Tries To Predict

If you try and predict you’re hoping and guessing and you can’t guess what a huge mass of traders is going to do in advance - you should only react to the price as it is.

Think of how many people try and predict by buying a dip to support and hoping it will hold - well if you rely on hope you lose.

- Any Method that Applies Science

Human nature is constant so markets so you can use scientific theories to accurately predict market movement - Wrong

Stand up anyone who follows Gann, Elliot wave or Fibonacci - they all claim they have scientific theories -but by definition a scientific theory should work all the time and none of the above do.

There is no scientific theory of market behaviour, because if the markets were scientific, we would all know the price in advance and there would be no market.

This is common sense! But many traders who show it in everyday life forget it when trading forex.

- Day Trading

So you can predict what millions of traders are going to do in the short space of a few hours - Really? Try it and lose, all short term volatility is random and you can’t win.

- Trade Breaking News

Sure you get it in a split second but so to does everyone else and the fundamentals are instantly discounted by the price, so it is impossible to trade.

SO HOW DO YOU MAKE MONEY?

The first point to keep in mind is that forex trading is a game of odds - NOT a game of certainties but if you play the odds you can make a lot of money.

The best way for a novice trader is to ignore the fundamentals (these facts discounted instantly) and simply follow their affect by looking at the reality of price on a forex chart.

A forex chart however gives you something more - it shows you how ALL The participants view the facts, so by following and trading price trends you can profit.

What you need to look for are trends and execute trading signals in line with price momentum to keep the odds in your favour.

For example, you see prices dip to support (which you expect to hold) but you don’t trade until you see prices turn away from support supported by price momentum

You then execute your trading signal based upon the reality of price.

Your not going to win every trade (remember were trading odds not certainties) but if you do it correctly you will win more trades than you lose and enjoy currency trading success.

A simple forex trading system is all you need.

Check support and resistance, execute on the reality of price momentum and use sound money management.

It may sound simple and it is - but you need to do your homework and be prepared to take losses as well as profits - but if you trade the odds you will enjoy long term currency trading success.

Here is a simple forex trading system that is easy to understand and apply and has influenced some of the top traders of all time. Don’t be fooled by its simplicity it works. Let’s look at it.

The 4 week rule is one of the simplest technical analysis systems of all time and it may not be trendy or flavor of the month, with a lot of forex traders who think complicated is better - but don’t think that because its simple it doesn’t work - it does.

Richard Donchian was a true legend and one of the most influential trend followers of all time he spoke and wrote profusely on the subject of trading and has influenced some of the greatest names in trading including trading legend Richard Dennis.

The four week rule has proved to be an effective building block on which many successful trading systems are based.

It’s based on the following assumptions about market behavior:

1. The strongest trending moves start from new market highs NOT market lows.

Those people who think buy low sell high is a great way to make money are wrong. If you don’t buy breakouts from new highs, you will miss some of the best trends - period.

2. A trend in motion is more likely to continue than reverse.

We all know this is a basic building block of technical analysis and there is no better trend than one that is making new highs

3. A four week cycle is the dominant cycle in trading.

This can vary at times of course but the four week cycle is highly effective.

The original rules were used for trading commodities and can be summarized by:

Cover short positions and buy long whenever the price exceeds the highs of the previous 4 calendar weeks.

Liquidate long positions and sell short whenever the price falls below the lows of the previous 4 calendar weeks.

The original system being devised for commodities was designed to use a stop and reverse so the trader was always in the market with a position.

In a non trading market it can get whipsawed a solution to this problem is to enter on the 4 week rule (the breakout), and to exit on a shorter time period such as 1 or 2 weeks. With this system, a four week “breakout” would be needed to initiate a new position, but a one or two week signal in the opposite direction would mean liquidation of the position.

The trader then remains out of the market until the next new four week breakout is registered.

Why It Works

This system is based on sound technical principles with signals that are mechanical and clear-cut. It is trend-following so a trader is virtually guaranteed to be on the right side of every trend.

It also follows the often quoted trading wisdom - “let profits run, while cutting losses short”. Another advantage is fewer trades, which means less time being spent looking at the market and finally you don’t even need a computer!

People often say technology helps - but for many traders its a hindrance they think being clever will make them money, well consider this 95% of traders lost 100 years ago and the its the same ratio before
yet computers today are more powerful than the one mission control used to land man on the moon!

Don’t be folled by simplicity it can be very profitable.

Being a trend-following system, it is not going to catch market tops and bottoms ( but how many systems do that though?) however, the 4 week rule works as well as any other trend-following system but with the benefit of incredible simplicity.

The Proof

You might be saying that won’t work - well go and try it on a strong trending currency market like the euro, Canadian dollar or Australian dollar and back test it and in a number of strong trending markets and you will see it does.

Don’t be led to believe that if its simple it won’t work - all the best forex trading systems are simple.

You don’t get paid for being clever you get paid for being right - Period.

Today, traders always like to trade something different or obscure but if you want a simple system, by a trading legend, that’s hard to beat - try Richard Donchian 4 week rule It’s been part of some of the true great traders box of tools and should be in yours to.

If you read any material from the great traders you will hear them tell you that discipline is the key to forex profits. If you don’t have it - you won’t win and most of the 95% that lose fail to acquire it.

This trading tip is all about acquiring it the easy way and trading for huge profits.

A simple equation for market success is:

A logical trading system + Understanding = Confidence = Discipline

Sounds simple? It is - but most traders fail to understand it and its significance.

Lets look at some common mistakes made by forex traders.

Most new traders use illogical systems.

For example, they try and day trade and that’s a guaranteed way to lose as the logic is ill founded. Other think you need to predict to win but you cant predict what will happen in the future - again the logic is wrong.

Other fail to understand how and why their trading system works.

They simply follow a guru or mentor and expect to win with no losing periods.

In the real world, they get some losses, they don’t understand why and confidence goes and discipline breaks down.

Others think the cleverer they are and the more computer power they have the more likely they are to win.

Again this is not true.

Computers are more powerful today than the one that Mission Control used to land man on the moon - yet the ratio of traders that lose remains the same - 95%

Don’t be fooled - the key to forex trading success is not the system but the trader and his attitude; discipline is the key just as it has been since trading began.

So you can see the first building blocks are:

Get a simple logical system that can get the odds in your favour.

If you build it yourself or follow someone else you MUST know how and why it works or you will never acquire confidence in your trading system.

If you don’t have confidence that it will win eventually, you won’t have the discipline to follow it through losing periods - it’s as simple as that.

Today traders think someone else can lead them to success.

They need to learn that no one else will make them successful - only they can make themselves a winner.

Others are duped by vendors telling them they can make a regular income or pick tops and bottoms with scientific accuracy - Rubbish! If only trading were that simple.

If all those trader claiming that they could make such great gains really could, they would be to busy trading and making millions to sell it to you.

No trading success and discipline comes from within from understanding flows confidence and from confidence flows discipline.

If you don’t have the discipline to follow your method you have no method!

The above is obvious - but most traders still look for the short cut, the guru or the far out trading system that will make them instantly rich or with no effort - but they all learn a harsh lesson - a wipe out.

If you are not prepared to learn forex trading and get the right forex education don’t bother do something else as you will lose.

The Good News Is:

Anyone has the potential to learn how to trade and acquire discipline but you must do your homework and understand no one else can give you confidence and discipline it comes from within.

So do your homework and learn a system you can have confidence in and discipline will follow - it really is that simple.