A-Z Guide to Different Forex Trading Styles
Forex trading can be done in many different ways. There are so many things to be considered, and so many possible approaches, that this article ought to be a very long one. However, the idea behind this article is to group these possibilities and classify them based on what the everyday trader’s interests are. Based on that, and coupled with the human nature that governs trading, we can talk about different trading styles that define the approach one has to the Forex market.
Trading Styles Categories
The most important factor to be considered when thinking of a trading style is the time element. That is, how long one is willing to keep a trade open until the take profit is reached! Speaking of the take profit, this is a relative term. For some people, it is the actual level at which one is willing to exit a trade. For others, it is a line in the sand that must be reached based on some predefined patterns. The way one looks at the take profit is the thing that defines the categories of trading styles. Based on that, we can distinguish three different trading styles, with a short description of each given below.
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Scalping is every trader’s dream! It means small profits realised in a very short time horizon! Human nature is very addictive to this kind of thing, in the sense that everyone wants to make a quick buck in the shortest time possible. Yet, while there are some clear advantages, scalping also has its drawbacks.
As mentioned above, the main advantage is that profits are made quickly. However, don’t be tricked by that statement: Losses can occur just as quickly as well. To scalp your way through the Forex market is to look for possible places where the market may bounce or slide, and set a very small take profit, both in price as well as in time. Some traders use this technique to make tens of trades daily, and this is also called day trading, or intra-day trading. To scalp means to look at the shorter timeframes. One cannot use scalping techniques on the longer timeframes, and I would go as far as to say that scalping can be only made up to the hourly chart and no longer. The big advantage is that it brings with it a very sound idea about what influences markets, as traders look down to as short as the 1-minute chart. So watching how the market is moving, and putting an economic event or a technical level to it, makes the difference between winning and losing.
The main disadvantage to scalping is the fact that one has to be glued to the screens. If you really want to know, there is a saying in trading that the trader needs to put in the screen hours. This means that markets need to be monitored closely so that one can react to unpredictable events. This cannot be truer than in the case of a scalping approach! Another drawback, and perhaps even more important than the one mentioned above, is that scalping leads to overtrading. Small profits are not associated with small risks, so people engaged in this approach will often have the tendency to take bigger risks to gain a small profit. Most of the time, these risks offset the potential profit, and this leads to overtrading. This is a mistake that in the end is going to lead to the account being wiped out.
Traders who belong in this category are looking at something else, both from a fundamental as well as from a technical point of view. The key here is the time horizon. Compared to scalpers, swing traders have a longer time perspective in mind, and the time needed for the trade to reach take profit can vary from a few hours to a few days, and even weeks. Swing trading is very much associated with the concept of trading based on a top-down approach. This means looking at the longer timeframes (the longest ones possible), analysing markets from a technical as well as from a fundamental point of view, and continuing that approach on the lowest ones. It means that the analysis should be continued on the shorter timeframes from the moment or place it ended on the longer one. In this way, traders move from the monthly charts to the weekly, daily and the 4-hour ones.
This approach to trading the Forex markets has the big advantage that traders are always up to date with what is happening in the currency markets, and the economic calendar is watched closely. Moreover, it allows traders to leave room for the market to get rid of the fake moves, and so positioning in the right direction is easier. Swing trading is the commonest way of trading the currency market!
Like any good stuff, swing trading comes with a drawback: When you get it wrong, you’re going to pay a dire price. This is especially valid if your approach is a fundamental one. Fundamental factors need time for the effects to be reflected in the Forex rates, and this time is usually longer than the time a swing trader dedicates to it. To apply Murphy’s law to this, when the trader gives up, the market will turn!
This trading style is embraced by traders who do not really care about the day-to-day news, or support and resistance levels on the shorter timeframes. This kind of person is looking for monetary policy shifts, for macroeconomics or geopolitical events to influence markets/economies, etc., and therefore the time horizon is a longer one.
Investors have a different approach when trading the Forex market. They do not really care about the intra-day movements or the economic news that is released. This is in contrast to the other two categories mentioned above, but these traders are looking at the bigger picture, for what is likely to happen in the years ahead. In this way, small swings the market makes, or daily emotions, are ruled out.
Staying on a trade for a long time is a tricky thing, in the sense that at some point in time one is going to start questioning the logic. Moreover, there are some costs associated with this trading style. One of the costs, and perhaps the most important one, is the opportunity cost. This refers to all the opportunities to trade the market in the other direction all the time while waiting for the take profit to be reached. The three trading styles mentioned above are the ones that truly define human nature and the different ways in which people approach markets. If you find that one is more appealing to you than another, it only means you are human, and that is the category you fit into.
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- Geopolitical Risks That Influence Markets
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Recommended further readings
- “Trading styles and trading volume.” Nagel, Stefan. Available at SSRN 785345 (2005).