2Bull Forex Blog

When you forecast Forex prices for the future, you use moving averages as a charting tools that will help in your predictions. There are several different kinds of moving averages.

Simple Moving Averages

You calculate a simple moving average (also known as SMA) by dividing the total of the past chosen period closing prices by the number of periods. Moving averages work on delay because you use price information from past periods to try and determine events for subsequent ones. It’s important to note here that past trends do not guarantee future trends, however.

When the periods you use to calculate your moving average are smaller lengths of time, your chart will be “choppier” versus if you use bigger periods of time; with this, the chart will be less uneven. However, if you use larger periods of time, your moving averages will also be less reactive to price changes. This is especially true with simple moving averages, because contributions to moving averages are the same for all individual periods.

One moving average is quite useless as a tool. If you want to find the price trends in the Forex market, you’ll need to plot a series of moving averages instead.

Exponential Moving Averages (EMA)

Although simple moving averages are good tools to quickly establish the Forex market trends, they can be very susceptible to fluctuations and also rely on older as well as newer prices; this makes them less accurate. When you do a technical analysis, you’ll need to base forecasts on the most recent prices you have available to you. This means that you’ll need to base your forecast on what traders in the market are doing right now, not on what they were doing yesterday, last week or last month.

Exponential moving averages weight recent currency quotes to greater emphasis earlier currency quotes.

For example, if the daily closing prices for the pair GBP/USD are:

Day1 1.9722
Day2 1.9727 (1.9650)
Day3 1.9737
Day4 1.9742
Day5 1.9747

This means 1.9735 is the simple moving average with a five-period one-day chart as the example. This is higher than the price on the first day, and suggests that the pair GBP/USD will be going up. If on day two this figure is 1.9650, this may indicate an interest rate change by the Bank of England. The simple moving average here would be 1.9720, which indicates a downward trend for the currency pair GBP/USD. (However, the price then increased consistently from day two through day five.)

What you need to do, then, is to use exponential moving averages that place more emphasis on recent prices. The exponential moving average, in other words, gives more emphasis to what the market is doing now instead of yesterday, the day before or last month.

In the example just given above, day two’s closing prices are at 1.9650, which means that the exponential moving average would have a weighting factor of 0.1, while 1.9726 would have a weighting factor of 0.2. (More recent prices are given higher weighting factors.)

You don’t need to do actual exponential moving averages calculations, because your charting software can do this once you plug the numbers in.

When you analyze Forex, you want to try and predict which way the market is going to move. If your predictions are right, you’ll profit, but if you aren’t right, you’ll lose your money. You can do a Forex analysis in two ways. One is technical analysis and the other is fundamental analysis.

Technical analysis means that you examine currency prices over a period of time so that you can try and tell what trends and patterns there are. As an example, let’s say that the value of one currency has been steadily growing over several weeks. It’s likely that this trend is going to continue into the future at least for the short term. When you are doing technical analysis, identifying a trend is the most important aspect of this. If you can correctly identify a trend and then trade so that you dovetail with that trend, your trades are likely to be profitable. In addition, the earlier you identify a trend, the more likely you are to have profitable trades.

Fundamental analysis means that you take into account the economic social and political forces influencing the value of a particular currency within a given country. If the country’s economy is strong, and if the country has a stable government, the country’s currency is likely to be valuable and will likely rise against the currencies out countries whose economies are weaker.

Currently, as of early 2008, Zimbabwe is a country with a very weak economy. This is largely due to a very unstable and corrupt government. Currently, farmland is being stolen and currency reserves plundered by Zimbabwe’s corrupt government officials. Inaddition, Zimbabwe’s inflation is now over 1000%. This means that the currency loses more than 90% of its value every year. At present, Zimbabwe’s currency is literally worth less than the paper it is printed on.

Even in countries that have stable and healthy economies, however, a particular reserve bank’s actions (such as the Bank of England in the UK or the Federal Reserve in the US) can influence a country’s currency value.

For best results, you need to use both technical analysis and fundamental analysis when you trade in Forex.

As an example, let’s say the chart the value of the UK pound (GBP) against the US dollar during October through November 2007, and you just use technical analysis. You would have noticed that for several consecutive days, Pounds Sterling was going up against the US dollar buy a round 100 pigs every day. On November 8, 2007, you see that the Forex quote is GBP/USD = 2.1104/2.1109. Your instincts tell you that by the end of the trading day, this should have gone up to about: GBP/USD = 2.1204/2.1209. You decide to buy one standard lot at a rate of 1 GBP = 2.1109 USD, = 47373 GBP. As before, you expect the GBP to go up by 100 pips; this will mean that you can sell your 47373 GBP for 2.1204 USD each, which gives you $100,450, or a $450 profit for the days trade.

However, when you check the day’s trading a few hours later, you see that it has moved against you, so that the Forex quote is now 2.0906/2.0911. You decide to get out so that you can cut your losses; you sell your 47373 GBP for 2.0906 USD each = $99,294. Now, instead of making $450, you have lost $706. What has happened here? On the first Thursday of every month, the Bank of England sets the UK base interest rate.

So, on Thursday, November 8, 2007, the Bank of England was to increase the UK base interest rate. This meant that UK inflation rates were lower so that the value of Pounds Sterling went up.

However, what the Bank of England did instead was to leave the UK interest rate on hold. This caused the GBP to fall in value instead of rising as expected.

Forex Traders who use software to automate the trading process should be very careful about the software that they use. The internet boom has brought with it a variety of so-called Forex trading ‘systems’ and ‘automated trading tools’ that have often brought more trouble than benefits to their users.

First of all, you should understand that in the online Forex trading arena - as with any other money making industry - there exist a number of scams that try to cheat you of your money. These scams are run by conmen who try to make a quick buck out of unsuspecting Forex retail traders who are looking to make easy money in the currency markets. One of the ways in which they do this is by selling some sort of Forex trading software.

Not All Forex Trading Software Is Bad

Of course, you should be aware that not all Forex trading software is of poor quality. There are indeed a good number of software that can be of practical use to the casual trader. However, such software are not easy to find. If you do a quick search on Google, you’ll likely come across a variety of websites selling some form of trading ‘system’ that claims to be able to make money for you via automatic trading. These software can range anywhere from $67 to $100 or more.

While it is not my intention to question the integrity of such software, I would personally stay away from such ‘get rich easy’ claims. When things seem too good to be true, chances are that they are.

If You Absolutely Want To Be A Forex Software Trader

Generally, it is my humble advice for you to ignore any type of software that claims to be able to trade profitably for you. If you insist on trying it anyway, please remember to at least use a demo account to gauge its profitability first. Run the software for at least 3 months, and see if it reliably provides you with consistent profits. Chances are, no piece of software can consistently give you profits all the time.

Also, it’s a good idea to pay attention to the largest draw down that the software gives you. It’s useless to be able to make 20 pips for 80% of your trades, if you can lose 90 pips on 20% of your trades. In this case, you’ll still be an overall loser.