Straightforward Price Action Trading

[michaelforexlondon]

Hi all,

I have started this thread to share my trading techniques with you. My interest in sharing my knowledge came about after helping a relative get started in financial markets. The process taught me a lot about my trading and helped crystallize a lot of the experience I had built up unconsciously over the years. I hope to get the same thing out of this experience and will hopefully help some people make money too.

A little bit about my background. I have been trading forex for about five years now and have been involved in financial markets for about the same length of time. My role is actually on the “buyside” making investments but not within forex. For obvious reasons, I can’t talk about what I do exactly but this experience has taught me a lot about what does and does not work.

If I had to summarize everything I know I would break it down to: no “system” works all the time. I know people who trade “systems” successfully and their success is based more on knowing when to adapt than working out some fundamental, systematic “truth”. The reason why systems don’t work is that the market keeps changing. Decisions made by real people create the market and there is nothing rational or consistent about this behaviour. To be profitable you have to keep adapting.

The reality of this is pretty unsettling for most potential traders. For whatever reason, people seem to think that there is some secret “truth” known to some professionals. If they could just uncover this secret they could be successful too. The reality is far less glamorous: lots of hard work and a ton of embarrassing mistakes. In fact, most successful traders are perfectly open about how they make money but, for most people, this is often just too simple. Instead of putting the time into learning and building experience most prefer to continue chasing the shortcut (in my experience, most people invest way more time in looking for a shortcut than is required to become successful). I understand that some people will never get past this stage, you should stop reading now if you can’t get over the “shortcut” phase.

So how does one actually make money? Well, I said it was simple: a combination of technical and fundamental analysis. This “system” has been written about thousands of times and features in hundreds of interviews with professional traders. It is far too simple for most people to cope with but does work if you put the effort in. You need self-control and discipline - it is very hard to stick with after a few consecutive losing months - but it does work if you put in the effort.

I am going to leave the first post here. I have a lot more to say but am interested to hear about what you guys think. I mainly trade the majors and I will post up some charts with some analysis later.

[jui25]

so you trade with tech and fundamental analysis and that share with us. I am right? If this I am waiting more from you

[michaelforexlondon]

Correct. I didn’t want to get too bogged down in what this method actually entails as the method is actually the least important part but yes…just technicals and fundamentals.

[michaelforexlondon]

Ok…first chart…probably the most compelling one at the moment - the GPB/USD cross. Why?

Look at this weekly chart, we are approaching a point of pretty major resistance. This range has held roughly since 2009 and the longer we stay in the range, the more important it is.

The first question I usually get is why I have drawn lines the way I have? Most people draw lines with hindsight strongly in mind but it is worth highlighting that if you tried to trade every point of support and resistance, you would probably go wrong. For example, look what happened a few months ago, we approach 1.62 and look like we are hitting some pretty strong resistance. Price stops a bit then busts through. Look at what happened a few months before that in early 2013. It looks like we are about to test those 2010 lows as we break through old support strongly. A few days later, we turn right around and shoot the other way.

So what is the answer? Well, unfortunately, there isn’t really one. When we retracted the break in early 2013 we could have bet that the old support level would hold. This probably wouldn’t have been a bad trade based purely on technicals alone but would have lost money. This is where fundamentals come in…

In early 2013, the US economy looked to be recovering strongly whilst the UK economy stagnated. The reversal we got was the change of opinion on this point. In my judgement, it wasn’t so much the strength of the US economy that drove this but the surprises out of the UK. The way we move strongly up halfway through the year suggests that a lot of people were caught out by this move. Either way, you really need to exercise some judgement here.

In my view, for the pound to sustain weakness below this level you really needed to believe in a unprecedented level of growth in the US which seemed unlikely given developments in the US and Japan, although I don’t think many saw the rally in UK equity prices coming. Either way, you needed to exercise some judgement.

Now, we could have traded the ~1.62 level resistance too. Again, this is a nice support and resistance level but price turns around much more quickly. The bulls were still clearly in control here and there was a lot of support. The move above this level was well justified by fundamentals.

Now, we are at the 1.66-1.67 level. To see what is going on we have to get in on the closer TF.

These are the three main levels and I have been a bit more careful here…it is probably too zoomed out to see but the levels are 1.625, 1.66, and 1.68. The market respects round numbers and halves and it is worth paying attention to where it is turning.

Now at the moment we are right up against support. Now the quick switch around this week suggests to me that there is serious selling pressure in this market. This fits with my view. I think the British economy is strong and improving but not enough to sustain higher levels above 1.68. The market has been in this tight channel for a while so is really looking for direction from fundamentals and I think we are going to get it eventually (I don’t know from what).

The final question we have is what to do about this…I already have a position but if I was trading from today I would open a small position with a very wide stop and then look for a retest of the 1.68 level to put on a really huge position. I tend to have a rough idea of where I would exit but this really depends. Sometimes I have cross-correlations with other positions, sometimes fundamentals change and the target has to be adjusted. At the moment, I am looking at 1.625 as the next obvious level. If I didn’t have any other positions in either the GBP or USD I would probably re-evaluate the position at this level.

[michaelforexlondon]

So above is the basic idea behind the strategy…look for the important turning points on the higher TFs, focus on those levels on the lower TFs, watch the fundamentals, and stay patient.

I have two more areas of interest to go through…the next cross we will look at is USD/JPY.

The level of interest here is 100-101. After the huge run up in late 2012 and the massive consolidation pattern in 2013 we jumped up to new highs at 105 then dumped down into a bit of a range between 101 and 103. What happened at the end of last week was actually pretty interesting the USD rallied hard at the beginning of last week then dumped even harder into support and is now sitting right on that support level around 101-101.5.

Again, it is easy to identify the key level of support/resistance here. Support is 101-ish, resistance is probably 103 and 105 but we don’t really have any idea how to use this information.

My inclination here is to buy USD but not at these levels. The ferocity of the selloff in the last part of the week was dramatic and this suggests that bears are really going to take a shot. It also isn’t clear yet if buyers are really going to hold this level as it is really a very recent level. Finally, I don’t really see any reason for the cross to move dramatically out of its range at this stage so I would be more inclined to bet on the range holding. Bears are concerned about any further JPY QE and bulls are concerned that none is coming, neither really have any conviction.

Now we should consider cross-currency effects. First, we should consider that this will correlate with the short GBPUSD position (if we took a shot at this level). If the dollar rallies then GBPUSD might fall and USDJPY might rise at the same time. We should consider this when sizing our position. Second, we should consider whether there are any better ways to play the JPY.

On this second point, we have seen a huge turnaround for the GBP/EUR against all currencies since mid-2012 and particularly the JPY. We have some medium quality levels on both the GBP/JPY and EUR/JPY crosses but they aren’t extremely compelling. I don’t think we are quite stuck in a range yet and we have the strong trend in our favour but I am still not convinced that the JPY is going to show particularly weakness against the EUR or GBP either. A position, perhaps the EUR/JPY would be preferred, and works quite well with a GBP/USD position but I think the price action in the EUR/JPY and GBP/JPY crosses suggests that nothing dramatic will happen.

[michaelforexlondon]

Nothing much has really happened today so I am just going to continue going through my areas of interest…

The final set that looks interesting are the AUD and CAD crosses. AUD and CAD have been hit hard recently. Economic strength in Europe and the US has led to flows into these currencies whilst concern over EM and commodity price weakness has led to flows out of AUD and CAD. The most dramatic movements have been seen in EURCAD which has been in a constant strong uptrend since mid-2012. Of the two, CAD has shown the greatest weakness.

There are a few opportunities lining up here…we could buy the trend in EURCAD, we could buy the consolidation patterns in USDCAD or GBPAUD or EURAUD, or we could bet on the AUDCAD which is coming up to a really important level. All of these ideas could be quite profitable.

I think the first move should be to short the AUDCAD. My fundamental views on the CAD aren’t really too strong but it is definitely better than the AUD. The support level around 1 is hugely important and has turned the pair four times over the past few years. We have a bit of a triangle pattern forming on the H4 which does often suggest bulls are going to win but in this case I think it more likely represents indecision, the market is waiting for direction. Current trading is near the near-term top of so the price today is pretty good. However, this isn’t a completely faultless set up. The 1 level hasn’t shown a lot of strength and we keep making higher highs and higher lows. I expect, as with USDJPY, that this might take a while to turn around if it does.

The next move would be to buy the EUR, GBP, or USD against either the AUD, CAD. Now we should bear in mind that we are already short GBPUSD and short the AUDCAD. We have to be aware of cross-correlations between these positions. For example, if the AUDUSD weakened then we might make money on both parts of the GBPUSD and AUDCAD bet (the AUD is getting weaker, the USD is getting stronger) and vice versa (to stay this in a more straightforward way, we are short AUDUSD).

In this respect, one interesting position would be to buy GBPAUD. I don’t like the AUD and can hedge out risk by getting really precise about where I think the GBP and AUD stands against other currencies. The GBP is better than the AUD and worse than USD, AUD is worse than the GBP and CAD. The danger with this is that you whilst you end up hedged on the GBP leg, you double your risk on the AUD leg.

The better position here, I think, is against the CAD. I don’t really have any strong view about the currency so I think it works quite well to sell some. I really don’t like the AUD but the current levels don’t look too compelling. We are already short GBP, long USD and whilst I am tempted to go more long the USD with a USDCAD position I think a EURCAD position is probably safer. Putting this on might correlate with the EURGBP but I am happy taking that risk (the downward channel break in that cross looks very interesting). I am slightly concerned about deflation and Draghi’s comments about the strength of the trade-weighted euro but I think the trend will keep going for a bit more. The key level is 1.53 and we are there or thereabouts so I don’t think we have to really wait.

[michaelforexlondon]

So that is that, I have laid out my current views and shown you all my thoughts behind each position. As you can see, I try to take each position as it comes. I pay attention to the levels, pay attention to the trend, and just think about what these mean in the context of fundamentals. Nothing too complicated but getting it to work requires a lot of practice and discipline.

The final positions are:

SHORT GBPUSD
SHORT AUDCAD
LONG EURCAD

The only currency I haven’t mentioned in this is the NZD, I do trade this sometimes but not a lot. I am not too familiar with the fundamentals, particularly the relation to the AUD. I notice that it has been hitting resistance against the AUD and is at some big levels, I may look at this later but I have no position.

I am happy to take any questions that you guys might have.

[jui25]

How you read/analysis your fundamental data. Can you explain with source. Thanx

[michaelforexlondon]

The short answer is I just read the news. Sites like DailyFX and EFX are fine but you can just read the FT, Economist, and WSJ too. The key thing is not to get too caught up trying to track everything, the aim is just to achieve a broad understanding of what the trends are.

The longer answer is that, alongside staying up to date with the news, you have to look a bit closer at specific countries that aren’t featured in the news. This could be main countries you trade (for example, NZD) or countries that may affect the countries you trade (for example, EMs). To do this you need to read more broadly and there isn’t really one source. A good starting point are IMF Article IV Consulations and all their regular publications (WEO, regional economic reports, financial stability reports). Publications from other international organizations like the IIF and BIS are good too. Trading Economics is the best place for actual data.

[michaelforexlondon]

Hello all,

Market is now testing the downside in GBPUSD, I think the key level here is 1.66. A decisive break here will be very important, although I do expect it to take a while longer to turn around conclusively.

AUDUSD is testing resistance at 1.91. AUD is a pretty important currency as, along with JPY, it is probably seen as the weakling of the majors. I think a decisive close above this level would lead me to reconsider my views on the USD. We have already had two failed breaks of this level so I don’t think we will hold. I have a semi-short here through my SHORT GBPUSD and SHORT AUDCAD.

Unsurprisingly, given the above, we are also testing the near-term highs in AUDCAD. The 1.00 level is the key level here but we have been trading higher than this for a few days. The near-term high is around 1.01. Again, I don’t think the AUD can hold up.

We are also testing the lows in GBPAUD, I am considering switching out of my EURCAD into this or just opening a position outright. It would hedge the GBP part of my GBPUSD short and double up on the AUD part of my AUDUSD short. I am cautious though, I don’t feel I have a particularly strong read on the AUS economy at the moment and I think I want to be short the GBP. I think, if I was to do something like this, I would try the EURAUD (which isn’t really at a good level yet) or the AUDUSD (as said above, I am going to wait here). This decision will definitely come up at some point though so it is good to prepare.

Finally, the EURCAD position looks quite good. The CAD has found some strength and this is drifting down to resistance around 1.53. The EUR is definitely holding against the GBP though and has broke through near-term highs after that channel break. So given my negative view on the GBP I should also consider going long EURGBP. Again, I am not going to make a move at the moment. I think people are cautious on the EUR after recent CB comments but this is another angle that I should consider as I will definitely have to make a decision on this soon.

So to recap, current positions are:

SHORT GBPUSD
SHORT AUDCAD
LONG EURCAD

[michaelforexlondon]

AUD very strong now, CAD is getting destroyed across the market so it looks like a poor move to try and play it against the AUD (although a good move to sell it against EUR), which is prone to these huge swings in sentiment. Looking what is happening in other crosses I think stops are being run in AUDCAD, I still have some room left until my stop so I am going to hold out. My view is (still) that there isn’t enough fundamental strength in the AUD economy to maintain these levels. I don’t think this view has been disproved by these moves.

[michaelforexlondon]

Today is obviously quite a big day in the economic calendar, I don’t really have any strong views about what might happen apart from it seems that the weather has been accepted as an excuse more in the US than in CAN. This would suggest no change in policy. I am really not positioned for anything either way.

Turning to open positions, AUDCAD broke through the intermediate highs. I am quite disappointed by this position, I have actually made 40 points off the CAD weakness, due to the long EURCAD position, but I expected a bit more resistance. I am still not totally convinced that this level can hold (based on where I see the AUD trading against other currencies) but it is clear that I made a mistake in betting on CAD here. I am going to switch this into a AUDUSD short, I think the R:R in this cross is quite nice as we are sitting at highs and I am doubling up on my position in the USD, which I don’t mind. Another option would be shorting AUDNZD, as this is already pushing against support I am going to leave it but monitor the situation.

GBPUSD has shown some strength too and broke resistance in early trading, yesterday was a false break. Combining this information with the break of resistance in AUDUSD and we are seeing quite a worrying trend. I don’t think that the market is telling us something about FOMC but it does seem that USD can’t sustain higher levels without a change in fundamentals. Whilst I pay attention to fundamentals, I don’t want to take a big bet on them. The best course of action is to cut down the size of the AUDUSD position and see what happens.

SHORT AUDUSD
SHORT GBPUSD
LONG EURCAD

[michaelforexlondon]

Moving in the right direction now, up 150 points net.

[michaelforexlondon]

I will be unable to fully update until later. After yesterday’s moves we are up around 230 points net. Obviously, we have moved through a lot of key levels and seen some interesting moves in lots of pairs. I see no reason to take anything off the table. I do expect some significant retracement in the AUDUSD and GBPUSD positions, maybe more so in the former as we are going against the trend. What is also notable is the way the EUR has folded completely, this has clearly affected the EURCAD position but is even more noticeable in the EURUSD. The EURCAD is particularly important as CAD is showing some major weakness against the USD and GBP.

[michaelforexlondon]

Having gone through some of my sources and data I don’t really see much need to anything substantial. I think the way that EUR has sold off is a bit of surprise. Some analysis seems to argue that it is a particularly yield sensitive currency so sold off heavily on changing expectations of US rates in the back end. This sounds plausible, given EUR rates, but it looks to me more like longs getting caught on the wrong side. The trend for the EUR still looks good against the GBP and CAD so I don’t see much need to really change my views based on the EURUSD move.

I don’t really think I can improve my current positioning much from here. I still want to be long USD, this is kind of against the trend of the past six months so I am expecting to be bounced around a bit. Going long USDJPY might be a better option, the JPY is clearly weak so we are probably less likely to get resistance and we are at a fairly nice level. The uncertainty for me is that it will probably take more QE in Japan for this to break out, I am happy going short the AUD and GBP just as we stand today although it will probably be more of a grind. So I am happy to keep the current positioning but I am watching the moves in USDJPY closely.

The other part of my current positioning is CAD, the EURCAD has drifted down and is now sitting right on support. I doubt we are going to get too much movement either way this late in the session but my expectation is that this holds. It wouldn’t break the investment case if this level was broken but I really see no fundamental reason for the trend to change right now. We are breaking into new near-term highs and the EURUSD was very weak so I don’t really see any reason to get worried.

So overall, we have had a nice move in our favour but I don’t think we are going to get much follow-through in the near term. Changing direction usually doesn’t happen quickly, I suspect that AUDUSD is going to be the slowest to turn and I expect most of the move of the past few days to retrace. However, I am happy with the general position so it is time just to be patient, stay alert to movements in other crosses, and wait to get paid off.

[michaelforexlondon]

Now we have gone through a few days of trading it is probably worth summing some of this up…

By now, some of what I said in the first post has been made a bit more clear. In my view, you really can’t approach forex with a “system” in mind. It isn’t what the pros do and it isn’t what you should do. I have never been able to summarize what I do neatly but it is clear that I am just paying attention to levels, paying attention to how all the crosses are trading, and paying attention to fundamental trends. Nothing complicated.

For example, going short the AUDUSD. I noticed that my short against the AUDCAD wasn’t working (and the way I hedged out with the EURCAD was important), I worked out why, and switched into something better. No system would have been able to make this kind of call (or take the right positions in other crosses) but it was right move. The fundamentals were right and the technicals were right. The technicals were particularly important as they allowed me to get in at a level where my risk was only about 50 points, if you are really good and dedicate time you can get into these positions for much less.

No individual part of this trade was complicated, all of the thinking was fairly straightforward. However, the difficult part is staying flexible, being able to respond to the market (especially when stuff goes wrong), and thinking critically. As most people here are probably aware, the problem most traders (especially new ones but experienced ones too) is sticking to something. When stuff starts going a tiny bit wrong, most people bail out and try something else. Having the self-confidence and resolve to stick through a tough period and keep going is the hardest bit and this is the only thing that separates a good trader from a bad one. I have taught a few people and the ones who failed were always the ones who were to scared to take losses.

Another important part is what I am going to do next. I am sure that the majority of traders would think “Great, I have 2x or 3x my risk, I am going to call it a day”. This is precisely the wrong attitude. Yes, you can trade around a position and you could even take some off here as it does seem likely that the move will retrace. However, the key to success is really pushing it when you are right. If you just cut it off then you have to keep finding this great R:R opportunities over and over. It makes more sense just to let your winners ride. Doing this requires a great deal of self confidence and an understanding of much longer-term trends in currencies. The point of the way I trade is, ultimately, to get in on huge trends lasting months that make thousands of points for only a few points of risk.

Again, questions are welcome.

[michaelforexlondon]

As expected, the AUDUSD has retraced much of the move and GBPUSD is holding. As unexpected, there was strong data out of CAD and we are seeing a huge rally. The data wasn’t actually too overwhelming, retail sales and inflation were marginally higher than expected. The market was clearly positioned short going into this and all the covering has driven a large move. Our EURCAD position has been decimated, probably because of the weakness that EUR has shown coming into today.

I am not too sure what to do about this. I don’t think today’s move has a lot of follow through against other currencies, for example the USD or AUD. The GDP report is upcoming and this data just doesn’t seem that important so I don’t expect a huge move out of range. As I speak, I think we are finding support at established levels. At the same time, this position isn’t one I feel too strongly about and we have seen some major weakness. The move above resistance wasn’t really convincing and support fell away almost straight away. Although we are long from the bottom of the range it isn’t a great idea to get caught up trading in ranges as the R:R is usually poor.

Looking at what is happening in other crosses, I am going to hold out here. EUR has shown some weakness and this clearly drove the response to the data and the reaction to new highs. Closing out would probably be fine too but I am going to try and stick this out.

[michaelforexlondon]

I am always surprised when the market does exactly what you think it will do…taking the guide of the other currencies was the right thing to do, EURCAD has retraced up to the top of the channel and support held in USDCAD. There was also an interesting fakeout in CADJPY. The key for the CAD will be data, I am not really too sure what the market is expecting but there are clearly a lot of people selling CAD into this.

AUDUSD has been grinding higher still and looks to have turned at exactly the spot I expected. I will probably have a proper look at the weekend but I expect this resistance to hold, if it doesn’t then I will just close out the trade for a small profit, this is really a key level though.

Some other currencies look to be at fairly good levels so we might take a look at them this weekend.

[michaelforexlondon]

I had a look through the charts more closely at the weekend, nothing really leapt out. This was lucky as we have had a really interesting open. I stopped out on the AUDUSD for a small profit, we have had some real AUD strength across the board which is of course right against my fundamental views. We have had a great deal of EUR weakness too, not quite as invested in this position but this is still important.

The AUD move has come on the back of no fundamental news (in fact, China PMIs were worse than expected so it has actually moved up on negative news). This isn’t particularly strange as the currency is seen as something of a proxy for risk appetite. The reason I took the stop was that the market is clearly telling me that it isn’t done yet. We have broken out and it looks like it is set to take a run at the intermediate highs, although probably not today. If we close above this intermediate high then I will reconsider my view on the AUD, at the very least I think we should start considering whether this is the best way to play this trade. Anyway, that is that for now and it is just a case of waiting and seeing what happens.

The other interesting move was the EURUSD taking a shot through resistance and then getting beat down. PMIs were softer than expected so this fail was kind of expected and EUR has lost pace across the board, even against GBP. The EURCAD broke through support around the 1.5480 level and is now sitting near the 1.5430 support level. To me, this level looks very weak at the moment and it is clear that the momentum in the EUR has switched, slowing if not turning. The failure of support/strength of resistance in the EURUSD was actually the most important sign for me. Technically, this looks like a good area to try a EURUSD short. We haven’t seen that same kind of weakness is EURCAD but if we were wanting to play CAD strength, this clearly isn’t the pair to do it in anymore. As a result, I am going to close this one out too and just see what happens over the next few days.

Overall, we are up (roughly) 98 pips with only one position in the GBPUSD outstanding.

[michaelforexlondon]

There were some really interesting moves yesterday that I should have posted about but I got bogged down in the above. Obviously, the big one was in EUR, this really seems to have puzzled everyone as it was a long time after the PMIs. I believe that someone was speaking around that time but the move appears to be largely unjustified. When currencies make these moves it is usually a bullish sign. The AUD has rallied strongly on basically no news, whatever our fundamental views this tells us we should just get out of the way. However, the EUR has shown less direction following this move and fell through support today, I don’t really see any reason to change positioning. In addition, the EURGBP is showing major weakness which is quite incredible given how badly the GBP has done lately. Draghi is speaking later which should provide more volatility, I have no position but I am expecting a sell-off no matter what.

One cross that does look interesting is USD/CAD, it is sitting on quite a nice support level. The price action looks extremely weak, we surged to new highs but the market has just sold into this move and sold any move up. However, I don’t think anything has really changed with the fundamental position and I suspect that buyers will keep coming in at this support level. I don’t think we have enough momentum to actually break to new highs but this is looks like a good opportunity to get short one of the weakest-looking currencies and long one of the strongest.