The forex market is drawing a lot of attention from everyone who is interested in making profits while sitting in the comfort of their home. The increased accessibility, liquidity and volatile nature of the currency market make it the most traded marketplace in the world. But traversing the forex market will not be easy unless you have a solid rule-based trading strategy. Each step you take throughout your trading journey will be decided by the forex strategy or trading system you employ. No strategy can be 100% perfect, but you can still achieve success by creating & following certain rules along with using trading tools, which help you find the right entry and exit points, lot size, pip movement and other information. If you cannot come up with a solid trading strategy, then you must go through this guide till the end.
Which Aspects of Trading Should Be Covered in a Forex Strategy?
Before we get into the steps you need to follow to develop your personalised forex strategy, you might want to learn about the aspects that will be covered in a forex strategy. A forex strategy or trading system will be a route map that tells you the direction you will move while trading in the constantly fluctuating currency market. The type of analysis you will rely on for spotting trading opportunities, what type of trend or range will trigger your trades and the time frame you will be watching for initiating trades.
The amount of risk you will take to pull off this particular strategy and what rules will be followed while carrying out the trading process within the boundaries of your trading system and more will be clearly stated in a well-defined strategy. At what point will you open a trade position, and how are you planning to keep it running until the exit point is reached? The profit potential of the trading system and the techniques you will be using to mitigate the risk need to be determined before you put your plan into action.
Now, let’s move on to the 5 simple steps that one has to go through to build a profitable trading system or forex strategy.
Choosing Your Trading Instruments
The first step you must complete in the planning phase is choosing the asset class and trading instruments you want to trade with. Even if you are primarily engaged in forex trading, you can always explore other asset classes or trading instruments offered by your broker, as it helps in diversification, which reduces the risk to a great extent. In the case of forex, you need to pick a bunch of suitable currency pairs that will be ideal for catching some good trading opportunities. For first-time traders, finding the ideal pairs will be more of a trial and error, and you may have to spend some time in backtesting and demo trading until you end up with the ideal currency pairs to trade with.
Beginners should always stick with just one major pair until they get enough experience in the market because trading with multiple pairs will only lead to confusion when you are still new to the currency price fluctuations. If you already have some experience or knowledge about different currency pairs, you need to select the ones that turn out to be the most favourable choice while trading. If you are engaged in live trading, I strongly recommend playing it safe and making calculated moves.
While trading with each currency pair, you will have to calculate its pip value, which is a unit to measure and determine the smallest movement in the price of a particular currency pair. Pip value will vary greatly depending on the currency pair and the base currency you have chosen to fund your trading account. In short, the asset class or trading instruments that you prefer to watch will play a key role in shaping the rest of your strategy.
Decide Your Ideal Trade Setups
The next step is actually the core of your trading system or forex strategy, as you will decide on the ideal trade setups you will look for while analysing the market situation. Spotting the perfect opportunity at the perfect moment is the ultimate goal of each and every trader when they engage in technical analysis by interpreting the patterns formed in the price charts or going through the news as a part of fundamental analysis. Here, you need to determine the most favourable market scenario for placing trades. You also need to pick the specific strategy for the execution of trades, and some popular ones you can consider include trend trading, range trading and breakout trading.
The type of trades that you will be initiating in a particular market situation and the desired results at the end of the trade need to be decided in advance. During this step, you will have to calculate the profit potential of each trade so that you can easily hit the profit targets without risking much of your capital. Calculating potential profits/losses can be intimidating for a newbie, but you can make it simple by adding a Forex profit calculator to your trader’s toolkit.
Managing Your Positions
When you open a trade position, you can let it run freely without interruption by pre-planning the entire process. For doing this, you will not only decide the entry price but will also consider the duration of the trade and will place the take profit and stop loss levels for a smooth exit. Placing a stop loss is actually something that you should never skip while planning or entering a trade. Many traders will fix all of these parameters before order placement and will not make any changes to them later.
However, a lot of traders believe in actively managing their trade positions until the exit. They may even decide to manually exit the trades once their target is reached. Sometimes, you may see the market making an abrupt shift in the middle of the trade, and you can make some adjustments to the take profit or stop loss levels based on the situation. Using a trailing stop loss can make things easier for you as it is a powerful tool to lock your profits with an automated stop loss that moves in your favour. Having knowledge about such tools and techniques is essential to plan and manage your trades in the best possible manner.
Choosing Your Trading Style
The trading style you follow while navigating the market will strongly influence the overall performance of your forex trading system. Your trading style is simply the time frame that you choose for analysing the price charts and carrying out the trading process. Someone who is watching tick or minute charts will be looking for small price movements and will execute multiple trades within a few minutes. This popular trading style is known as forex scalping, and the duration of trades will not be any longer than 5 minutes.
Another popular trading style followed in the forex market is day trading; here, the trade duration will be less than a day. All your positions need to be closed before the end of a trading day. You won’t keep any overnight trade positions open and will watch hourly charts for analysis. Swing trading style requires a little more patience as one may keep the trades open for several days or a few weeks. Positional trading is preferred when you are patient enough to let the trade run for a prolonged duration, which can last for months or even years.
Plan for Risk Management
The importance of risk management is one thing that all forex traders unanimously agree upon, irrespective of their trading style and strategy. The risk element will always be there with every trade you enter, and you need to devise a sound plan to manage this risk while optimising the performance of your trading system. You should not be taking excess risk to make more profits as it will only result in losses if the market becomes unfavourable.
However, you should not be afraid to take some risk when a trade has a good probability of profits. Because being too rigid with risk management will result in limiting your own potential. Hence, you need to come up with a proper risk management plan that can complement your strategy and generate better results.
Wrapping Up
To wrap it up, the 5 steps I explained above are only the tip of the iceberg, and you will have to go deep to know more about all the technicalities involved in each step. Being detail-oriented and logical is crucial for creating a good enough trading strategy to rely on. But you also need to keep optimising this strategy for growing as a trader.
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