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How To Create Your Own Forex Strategy

Hello again everyone, and kudos to all sisters who have come back ūüôā

Congrats –¬†you’ve come this far, so I must assume you are really invested in the topic of trading. Well, alright then! On we go with our common journey!Impossible sign

This next section is aimed to provide you with practical knowledge and information how to create your own strategy.

These last couple of years I came across A LOT  of strategies Рand you may be surprised to hear that yeah, in fact,  I have tried them all.

No strategy will work if you don’t commit yourself to it over a series of trades – the odds game, remember?

First Challenge – Finding Your Own Strategy and Sticking To It No Matter What

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And there it is , your very first challenge. If you just adopt a strategy that has been designed¬†and tested by someone else, you are more likely than not heading for disaster. Call it karma, black¬†magic, or even the curse of¬† “Him Who Can’t Be Named” ūüėȬ†but I assure you that¬†starting with a new strategy almost always starts with a loosing streak . And if not that, then at least¬†it will kick off with some losing and some winning trades but you won’t stay in the winning trades long enough to make up for your¬†losses. Ouch. That sucks.Voldemort Big time. However, don’t forget that¬†this is exactly the moment¬†that you are being tested… tested on your belief and trust¬†that you are indeed participating in an odds game and that losing some trades is part of that game;¬†survive that test because you have to stick to your strategy NO MATTER WHAT! Because again no matter how you end up calling it – ¬†black magic, karma or Voldemort – once you give up on your strategy and then come back to look¬†at your charts,¬†your strategy¬†WOULD have done exactly what you would have¬†wanted it to do. The fact of the matter is, though, that NO ONE¬†makes money with would haves, should haves, could haves….;-)

Did I hit a sore spot? No worries, anyone claiming he or she hasn’t been in this position is flat out in complete denial or lying (but exceptions make the rules…).

Needless to say, I wasn’t that exception. It happened exactly like that for me.What did I learn from these experiences? I had to familiarize myself with indicators : what they are designed for, what I can expect of them and more important what not, do I really need an indicator and if so how many ? In which market conditions are they best used and in which absolutely not?

Second Challenge – Indicators – Where, How, When?

That brings us to¬†challenge number 2; how to find the “right” indicators and where to get that information.

I do think I tried a lot in that respect, not all, but a lot. Ranging from the Bollinger Bands, to the RSI, to MACD, ADX, SSI, MA’s, EMA’s, Fibonacci’s, Force Index, Volume and so on…. the list is endless. Fx Trading

 

 

 

 

First of all it is important to know that specific indicators are designed for specific market conditions. That means that the market alternates between contraction, i.e. consolidation, and expansion, i.e. trending. The stochastic RSI, with its overbought and oversold, can work very well in a period of consolidation, but will put you up for disaster in a trending phase.

Moving Averages can be of great assistance in trending environments, but are of absolutely NO use in a period of consolidation, since price will slam back and forth through your MA’s, causing your “great signals” to drain your account before you know it.

It took me a good long while to actually understand this and start to see what I really needed to look for. Ok, there is no simple or easy solution for this, and sure as hell not a fast one. You have to put in the time and read up on the use of indicators, when to use which one and how to use them for your trading. And yes, this will be one of the most time consuming tasks in your journey of becoming a successful trader. It will take time to look for the right information without getting too overwhelmed, test out the indicators you chose for yourself on a demo account and get a feel for them; you will figure out which ones you prefer, trust me!

MACD, ADX And Moving Averages

For me? I got hooked on the MACD. Not the regular MACD, but the¬†3/10 oscillator¬†that¬†was “created” by Linda Raschke, but in detail explained by Corey Rosenbloom, of whom I am a big fan by the way. I will post¬†about the specifics of the settings shortly. I don’t use it for buying or selling signals, I use it for confirmation and disconfirmation, i.e. convergences and divergences. Besides the MACD 3/10 I have the ADX on my charts. This indicator helps me to detect phases of buying or selling (depending¬†on the trend we are in) on a higher timeframe (1H) AND with the actual¬†putting on trades¬†and getting out of them, on my preferred “trading timeframe”. Maybe even more important,¬†it helps me to stay out during retracements or¬†contractions. Needless to say, they help me, because none of these indicators are perfect, no holy grails remember? ūüôā

Besides the MACD and the ADX,¬†I love Moving Averages. I always have a 200 simple MA (SMA) on my chart and depending on the movements of the trend a 10 or¬†20 exponential MA (EMA). The 200 SMA gives me direction and price crossing, my 10 or 20 EMA,¬†gives me my buy or sell signal. If confirmed by¬†the ADX¬†and depending on my risk appetite, the crossing of a good old fashioned counter trendline. Many people use cross overs of EMA’s or MA’s to give them the signal, I just prefer the price movement itself to¬†cross over.¬†That’s personal preference.¬†I will lay out the¬†specifics on MY strategy in “Own your own ATM machine”.

But this is about YOU and YOU creating your strategy…;-)

Third Challenge – What Currency Pairs And On Which Timeframe

Thats the question, isn’t it – what currency pairs¬†to trade¬†and on which timeframe?¬†Again,¬†there is no easy answer. Again,¬†it has to do with preferences.

GBP pairs, GBP/AUD, GBP/CAD, GBP/NZD and GBP/JPY,  tend to be great movers with a lot of potential, but also very volatile and therefor spiky when trading intraday. On a daily chart they are reasonably steady and predictable, but that means taking wide stops and thus high risk and limiting you when you are trading with a small account.

The JPY pairs are, in my humble opinion, good pairs to trade. The can move quite a bit, but are less spiky, or tend to be less spiky and are therefore better suitable to trade from lower timeframes, like the 15, 5 or even 1 minute. The advantage of trading from these smaller timeframes is the tighter stop losses. And if traded in the direction of the trend in a larger timeframe,  they give great opportunity for a more then healthy risk vs. reward.

The Euro pairs…. I don’t know…. The EUR/AUD, EUR/CAD and even the EUR/NZD are at moments good movers, but I experience them as unreliable and unpredictable in nature. And one way or the other, I always had a hard time trading them profitably hence I haven’t touched them for a while now. EUR/USD can be a great steady trading pair, but has been in consolidation already for a while now. My thoughts on that pair… let it show itself first. Wait.¬†I bet it is going up in the relative near future, but I’m absolutely uncertain when and how.

The USD pairs, I sincerely detest the USD/CAD. I don’t like pairs that are under the influence of, in this case, ¬†a commodity: OIL. Every and any pair is being influenced by economic data, disasters, elections,¬†¬†and so on. But the way the USD/CAD is linked to oil…¬†it is in fact¬†the Canadian Dollar that is primarily linked to the oil price, which then in turn influences the exchange rate between the USD/CAD of course.

Oil prices are almost an indicator for this pair, but only almost Рagain, not a reliable sign. While I write this and read it I realize that this currency pair is OFF my list already for quite some time now, and for good reason.

The AUD/USD can have nice trending moments, but more often than not it is bouncing between pivot points, i.e. it is in consolidation. I will have a better look at this one in the near future, because bouncing back and forth, with enough pips in between, can be very profitable…;-)

And last… the exotic pairs. I don’t trade them. The spreads are way to high and I never even bothered to look at them. I stick to the before mentioned pairs, check them regularly¬†for opportunities on the daily chart, if they arise,¬†I trade¬†in a lower timeframe.¬† Which timeframe I actually end up choosing depends on my own personal agenda,¬†the¬†volatility of the pair and as mentioned before, my risk appetite.

Ask Yourself

Except for the GBP pairs, or at least that is my experience and advice, you can determine your timeframe based on the amount of time you can spend behind your computer and whether you want to play for tight stops, tight targets, or larger stops and larger targets or even tight stops and large targets. You gotta ask yourself:

  • Are you going to be a scalper, a day trader, a swing trader or an investor?
  • Do you like a fast moving market or do you need some “thinking time” before entering a trade when your signal presents itself?
  • Are you patient and willing to wait for hours, seeing whether your setup actually unfolds itself?
  • What is your risk tolerance?
  • What is your number of losing trades in a row before you start doubting yourself?

All question you have to answer for yourself. And the best way to find out is to actually DO IT. At first with a demo account, and when you feel comfortable with the things you found out and learned, open a real account and start actually putting in trades with real money.

Fourth Challenge – Money Management

Whatever you do: DON’T overtrade! By this I mean, do not risk more then 1 or 2% of your account on one trade. I know exactly what it is you are thinking now:¬† how on earth am I going to make good money if I can only risk 1 or 2% on a trade?? Slowly, but consistently. And of course, once you’ve got¬†the hang of it and flawlessly execute your strategy, know exactly what to expect, the losses, the wins, staying in a winner, cutting your losses short. Once you are¬†being a consistently profitable¬†trader,¬†you can start think of spicing up your game.

But please take this particular piece of advice: I have been there and so many others with and before me. Going in with way to much risk, tolerating 1,2,3 even 4 losses in a row, growing absolutely desperate – then you are sure to¬†stop putting in your trades according to the strategy, et voila….¬†there it is, exactly as you wanted. According¬†to your strategy. Only¬†YOU STOPPED FOLLOWING IT. Had you traded according to it, you would have¬†easily made¬†up¬†for all the losses you had. But yeah, you quit too soon. You got scared. And now? Now¬†you are¬†too¬†paralized to do anything. This is not good for your trading psychology, nor for your health, for your finances, for your well-being or your stress¬†level.¬†That cascade of mistakes causes so many negative emotions which will wreak havoc with your body & mind. If you want to know more about that, by the way, you should read Negative Emotions Affect Your Health.

So, here is my advice:¬†stick to the 1 or 2% risk per trade and DO NOT enter a trade unless you see at least a 1:2 risk¬†: reward opportunity, preferably higher than this. The math behind it is simple: with a 1:1 you have to be right more then 50% of the time (don’t forget commission you pay to your broker per trade). With a 1:2, you can lose at least half of the time. With a 1:3, disregarding commission for a sec, you only have to be right 3 times out of 10. But then you really have to commit yourself to sticking to your profit target and stop loss for that matter.

And now? We are at the point where we actually enter the world of trading psychology for real!  I could just keep on writing, but I will at this point recommend some books because yeah, those guys have already said it all. My trading career changed reading the books of Mark Douglas and Brett Steenbarger. Both are experts on trading psychology and must-reads for every trader. Another book I would like to recommend to read is written by Corey Rosenbloom. This is less psychology, but also a must-read when it comes to all the before mentioned, more technical analysis related, challenges.

Here is a list of books I recommend:

Mark Douglas – Trading In The Zone

Mark Douglas – The Disciplined Trader

Corey Rosenbloom – The Complete Trading Course

Brett Steenbarger – 101 Lessons for Becoming Your Own Trading Psychologist

 

So, success! And please join me on our next stopover on this exciting journey!