A view on technical analysis

Almost all of us have seen financial trend charts. To beginners they may seem difficult to understand and somewhat  confusing as they probably contain lines of support, resistance or channels; formations such as flags and pennants etc. But the subject is not hard to understand at all, it is rather a matter of practice.  

(wikipedia)

Technical analysis is a method of predicting price movements and future market trends by studying what has occurred in the past using charts. As the Forex market is said to follow trends this is obviously a very advantageous activity.
Technical analysis is concerned with what has actually happened in the market, rather than what should happen, and takes into account the price of instruments and the volume of trading, and creates charts from that data as a primary tool.
One major advantage of technical analysis is that experienced analysts can follow many markets and market instruments simultaneously. This makes sure you always are looking at the wider picture, you learn to spot which currency is about to rise and which is about to fall.

Successful technical analysis is built on three essential principles:

1. Market action discounts everything!

This means that the actual price is a reflection of everything that is known to the market that could affect it. Some of these factors are: fundamentals (inflation, interest rates, etc.), supply and demand, political factors and market sentiment. However, the pure technical analyst is only concerned with price movements, not with the reasons for any changes.

2. Prices move in trends.

Technical analysis is used to identify patterns of market behavior that have long been recognized as significant. For many given patterns there is a high probability that they will produce the expected results. There are also recognized patterns that repeat themselves on a consistent basis. This means the trader who can correctly identify the next move of a given currency is the trader who can limit their losses and maximize their profits.

3. History repeats itself.

Forex chart patterns have been recognized and categorized for over 100 years, and the manner in which many patterns are repeated leads to the conclusion that human psychology changes little over time. Since patterns have worked well in the past, it is assumed that they will continue to work well into the future.

levels of support: 4 5 6 7 8
and resistance: 1 2 3
(wikipedia)

Disadvantages of Technical Analysis:

• Some critics claim that the Dow approach (“prices are not random”) is quite weak, since today’s prices do not necessarily project future prices

• The critics claim that signals about the changing of a trend appear too late, often after the change had already taken place. Therefore, traders who rely on technical analysis react too late, hence losing about 1/3 of the fluctuations

• Analysis made in short time intervals may be exposed to “noise”, and may result in a misreading of market directions

• The use of most patterns has been widely publicized in the last several years. Many traders are quite familiar with these patterns and often act on them in concern. This creates a self-fulfilling prophecy, as waves of buying or selling are created in response to “bullish” or “bearish” patterns.

Advantages of Technical Analysis

• Technical analysis can be used to project movements of any asset (which is priced under demand/supply forces) available for trade in the capital market

• Technical analysis focuses on what is happening, as opposed to what has previously happened, and is therefore valid at any price level

• The technical approach concentrates on prices, which neutralizes external factors. Pure technical analysis is based on objective tools (charts, tables) while disregarding emotions and other factors

• Signaling indicators sometimes point to the imminent end of a trend, before it shows in the actual market. Accordingly, the trader can maintain profit or Minimize losses.

Online broker accounts

Free "demo" or practice accounts

Free Forex practice accounts are a service that are loved by some yet hated by others, why is this so? Surely a free practice account can be nothing but a good thing?

Not exactly so, it does have its benefits but also has it's pitfalls, in this section we will examine the pros and cons of such an account.

Lets start off by looking at the practice account. For those who may not be aware, the free practice account does exactly what it says on the tin, it lets you practice Forex trading for free, sounds great for a newbie trader and in many ways it is. The brokers who offer a free forex practice account do so to help get people interested in Forex, nothing wrong with that since they exist to expand the number of traders in the market and on their platform. It's also a great way for the new trader to begin to learn Forex trading.

(learn-forex-online.com)

Currency trading is no simple click and go experience, several brokers have introduced no frills platforms with low minimum deposits to get the virgin trader started and one or two have taken it a step further and allowed people to open a free practice account where you can begin trading with make-believe money until you have the confidence and knowledge to risk your own hard-earned cash.

That's were the main pro of the practice account lies, in being able to learn the Forex market and key functions of trade without risking a penny! However, this is not always good news. When trading with "virtual" money suddenly the risk becomes less, in fact risk is nonexistent as you have an endless stream of make-believe money this means you may be more likely to risk on trades you know you shouldn't and wouldn't make in the real world. This can lull you in to a false sense of security.

Lets say you make en extravagant risk with practice money and it comes off, so you make another big risk and that comes off too, all of a sudden your confidence is up and you feel you can start playing with your own money and taking uncalculated risks. The Forex market has suddenly become very very appealing, if you can make this much money in the practice area imagine how well off you would be if you were using real money? This is where things go wrong, you then go ahead and open a real Forex account and deposit your own cash.

Your confidence is up and you feel like you know what you are doing. You make a risky trade with your own cash and it fails, suddenly your Forex career is over and you are sat looking at a significant loss, it seems when its your own "real" money the practice you got with virtual cash counted for nothing. Of course if you take things slowly and carefully you can avoid this and become a successful trader, but you have to have that self control. Practice accounts are very useful, but only if you carry out trades exactly as you would if it was real money. Never make a trade in a practice account that you wouldn't make with your own cash!

To help get around this several brokers now offer mini-accounts with deposits as low as $25. This is virtually a practice account anyway with such low deposits, however, it’s still your own cash so you are more likely to make realistic trades and not risk big time trades.

(advanced-forex.com)

The Mini Account

Mini forex accounts are used mostly be people who are just starting in the forex market and don’t possess enough funds to operate a regular account. The difference could be understood from the fact that a regular account could be opened with at least two and a half thousand dollars or more while the minimum for a mini forex account starts from $25.

CONTRACT SIZES

Another advantage of mini forex account is its contract sizes. For a regular forex account, the lot sizes must be about hundred thousand while for a mini forex account the contract sizes are ten thousand. This means that mini forex contract comes out to be one tenth of the regular contracts.

ADVANTAGES OF FOREX MINI ACCOUNT

Well, there are a lot of advantages of a forex mini account. The best thing is that with a forex mini account you get to enjoy benefits that are enjoyed by the holders of regular forex accounts. Some of these benefits are small spreads, free trading platforms etc.

USING $50 TO TRADE 10,000

There is a term that is very commonly used in the world of forex mini account. It is leverage. It could be understood as a facility that allows you to trade more than your deposits. For a mini forex account, the margin deposit needed for every $10,000 lot traded is $50. Now, you do the math. A simple calculation of dividing the two quantities would tell you that the leverage here would be 200 to 1. If you deposit just $250 in your mini forex account; it means that you can trade a maximum of five lots. Increasing the deposit to $1000 would allow you to trade a maximum of 20 and so on.

Compare this with a regular forex account. The leverage there is just 4 to 1 for account holders having $25,000 or more in their account. This means that the leverage of someone having mini forex account is fifty times higher than a regular forex account. It is true that higher leverage could not always be used but what it does is that you get some distinct advantages in terms of flexibility in changing the strategies as per the changes in forex market.

Best trading times

The one thing marks a forex market, is its dynamic nature. Here fortunes change in seconds and minutes. If taken positively, this feature also allows a trader to enter the market many times in a single day and garner some profit for himself.

Timing is one thing that would actually determine your success in the forex market and that is why it is essential to find the best time to trade the forex market, the best time with regards to activity, volume of trade etc.

There are some salient features of forex market and until and unless these are understood one cannot find out the best time to trade the forex market.

24 Hour trading

Forex markets work 24 hours. It starts from Sunday 5 pm EST through Friday 4 pm EST and rollovers at 5 pm EST. Forex trading starts from New Zealand and then is followed by Australia, Asia, the Middle East, Europe and America. The most prominent forex market is undoubtedly the US and the UK. They account for more than half of the total market transactions.

(forex-internet.com)

If it comes to major forex markets, London, New York and Tokyo would win hands down. Around 75% of market activities in the New York markets are witnessed in the morning hours while the European markets are still open. And if you want to know when the forex trading is the heaviest, well look for the time when the major markets overlap.

One thing must be evident from this discussion. There is never a cease down in the forex market. When it is daytime for you, it is nighttime for someone else, and vice versa. Markets close somewhere and simultaneously, markets open somewhere else. That is what offers traders this tremendous opportunity to make some serious money.

Flexibility to trade

Forex market is characterized by high liquidity and high flexibility and as such traders get the freedom to make choices as per their wishes. They are not bound by the whims of the markets.

So, when you try to determine the best time to trade the forex market this information would prove very useful. Trades have almost always the same relative frequency and till the forex market remains open, the probability of finding a trade whenever you look is almost the same. This is all about volume of trade. It is determined by the number of markets that are open and the number of times each of these markets overlap with each other.

Keeping in mind the forex volume is extremely essential. It is generally seen that the volume of transactions remains high all through the day but when does it peak? The answer is when the Asian markets with Australia and New Zealand, the European markets and the US markets open simultaneously. And this is the best time to trade the forex market.

Market times

Let's have a look of the timings of some of these markets.

(forexsignallive.com)

New York Market : 8 am – 4 pm EST
London Market : 2 am - 12 noon EST
Great Britain Market : 3 am – 11 am EST
Tokyo Market : 8 pm – 4 am EST
Australian Market : 7 pm – 3 pm EST

Just have a look at the above schedule carefully. What do you see? Yes, there are tow times when two of the major markets overlap during the trading hours-between 2 am and 4 am EST (Asian/Europe) and between 8 am to 12 pm EST (European/N. American). This is the time you have to target to make profits, the best time to trade the forex markets

Common currency pairs & trading principles

If you look at the quotation structure of Forex currency market, you will see something like USD/EUR or GBP/USD. These are the Forex currency pairs.

All Forex trades that involve buying of one currency and selling of another, are done in Forex currency pairs. E.g. you buy Euros with US Dollars anticipating that the price of Euro will increase in value relative to the US Dollar. So, when the Euro rises relative to Dollar, you sell it and make profits.

Common trading pairs

The Forex currency pair is a single unit, an instrument that is bought or sold in the forex market. Though there are many currency pairs available in a Forex trading system the most commonly traded Forex currency pairs are:

EUR/USD – Euro vs. U.S. Dollar
GBP/USD: British Pound vs. U.S. Dollar
USD/JPY: U.S. Dollar vs. Japanese YEN
USD/CHF: U.S. Dollar vs. Swiss franc

(tradeforexmarket.biz)

In the Forex currency pairs, the value of one currency is determined by its comparison to another currency. When the Forex currency pairs are quoted, the first currency is referred as base currency and the second currency is called counter or quote currency. The base currency is always equal to 1 monetary unit of exchange (e.g. 1 EUR, 1 GBP, 1 USD). The currency pair shows how much of the quote currency is needed to purchase one unit of the base currency.

Buying and selling

The Forex currency pairs are usually traded and quoted with a "bid" and "ask" price. The bid is the price at which the broker is willing to buy and the ask is the price at which he is willing to sell.
For example, if the USD/EUR currency pair is quoted as - USD/EUR = 1.5 and you purchase the pair, this means that for every 1.5 euros that you sell, you get US$1. If you sold the currency pair, you receive 1.5 euros for every US$1 you sell.

(irvinehousingblog.com)

Base Currency

This is the first currency quoted in a Forex currency pair. It is also known as domestic urrency or accounting currency and sometimes referred to as the primary currency of a Forex currency pair. For example, CAD/USD currency pair. Here the Canadian dollar is te base currency while the U.S. dollar is the quote currency.

The price represents how much of the quote currency is needed to get one unit of the base currency.

Major base currencies:

Euro - EUR/USD, EUR/GBP, EUR/CHF, EUR/JPY, EUR/CAD
British Pound - GBP/USD, GBP/CHF, GBP/JPY, GBP/CAD=
US Dollar - USD/CAD, USD/JPY, USD/CHF

Quote Currency

This is the second currency quoted in a Forex currency pair. This is also referred to as the
foreign currency, secondary currency or counter currency.

Major quote currencies:

U.S. dollar, British pound, Euro, Japanese yen, Swiss franc or Canadian dollar.

The Market Maker...

A Market Maker is the counterparty to the client. The Market Maker does not operate as an intermediate or trustee.

A Market Maker performs the hedging of its clients' positions according to its policy, which includes offsetting various clients' positions, hedging via liquidity providers (banks) and its equity capital, at its discretion.

(betterexplained.com)

Who are the Market Makers in the Forex industry?

Banks, for example, or trading platforms who buy and sell financial instruments at the market. That is contrary to intermediates, which represent clients, basing their income on commission.

In recent times there has been a big boom of online Forex brokers, there are no longer just one or two dominant market makers. Even more recently trading platforms have begun to reduce their minimum deposit levels bringing in accounts known as Mini-Forex accounts. These accounts often have minimum deposit levels of less than $100 making Forex a far more attractive market for the public than ever before.

Do Market Makers go against a client's position?

By definition, a Market Maker is the counter party to all its clients' positions, and he always offers a two-sided quote (two rates: BUY and SELL). Therefore, there is nothing personal with the trading conduct between the Market Maker and the customer.

Market Makers regard the total positions of their clients as a whole, same goes for banks and other market makers in the Forex market. They offset between clients' opposite positions, and hedge their net exposure according to authorities' guidelines and their risk management policies.

Certain market makers such as trading platforms will offer a managed Forex account, this means that they will work with you to help ensure you are always trading effectively. Because of the genetic make-up of the Forex industry a managed account can be very beneficial to both the trader and the platform.

Do market makers and clients have a conflict of interest?

Market makers are not intermediates, neither portfolio managers, nor advisors who represent customers (while earning commission), but rather they buy and sell goods to the customer. By definition, the Market Maker always provides a two-sided quote (the sell and the buy price), hence maintains neutrality as for the client.

Banks do that, same with merchants in the markets, who buy goods and sell it to customers. The relationship between the trader (the customer) and the Market Maker (the bank; the trading platform; etc.) is simply based on fundamental market forces: supply and demand.

(economics.blog.co.in)

Think of a market maker as a shop, they buy in certain currencies and then sell the currencies on based on demand. Of course they may sell some currencies for more than they bought them for hence they make money. The advantage of this for the day trader is that no commissions are charged on transactions so the shine of a profitable trade cannot be taken away!

Can a Market Maker influence market prices against clients' position?

Definitely not, because the Forex market is the nearest to being a "perfect market" (as defined by economics theory).
This is the biggest market today, reaching a daily volume of 3 trillion dollars throughout the globe. That means that there is no single participant in the market, banks and governments included, who can consistently push the price in a certain direction. It is the traders and the public that determine the demand for currencies and therefore their price and any rises are falls in value.

How do Market Makers manage their exposure?

The way most Market Makers hedge their exposure is to hedge on bulk. They aggregate all clients' positions and pass some, or all, of their net risk to their liquidity providers.
Think of it this way, a large distributor buys in thousands of units of a product and then re-sells them for a higher price, the distributor does not need to sell all of its stock at full price to make a profit since it acquired the product at a cheaper than retail price in the first place. Whilst the Forex market obviously has some major differences, the principles are the same.

How do I start trading Forex?

Dear Readers,

in the most recent comments, two interesting and fundamental questions have been raised. 

Vaguely: "It seems, that with only a small amount of money, I will never be able to make a huge profit." And: "My local bank charges me high fees for converting currency, this will eat up all my profit"

Let me give you a quick answer, before I continue in detail. In modern trading, something called "leverage" has become very popular, especially among small investors. In short, let us say you invest $1000 of your money, the leverage effect will enable you to invest $100.000, depending on the leverage ratio, here 1:100 of course. This has pros and cons, as your yields or losses rise enormously. For instance, I have set up a demo account with $100.000, and as I am trading with a leverage of 1:200, I can now buy currency for $20 million! 

(betterexplained.com)

This brings me to question number two - the fees. Whenever you buy stocks, currency or anything else traded at a "marketplace", you require a broker. Even if you "buy" your stocks at your local bank, a broker will be involved. Since many years online brokers have changed the world of trading. They offer all kinds of software, that lets you place realtime orders, automate processes, tools for analysis and of course much cheaper fees. E*trade, Scottrade, Wells Fargo, CMC Markets, Trade King, AFA FX are just a few. Many of them "make their money" through the spread of bid and ask price. "This is essentially the difference in price between the highest price that a buyer is willing to pay for an asset and the lowest price for which a seller is willing to sell it." [investopedia.com] So only little or no other fees will be charged.

Let us now take a closer look at how this works at the forex.

You select the pair of currencies with which you wish to make a Forex deal. You determine the volume (the amount of the deal). You deposit the "margin" (collateral needed to facilitate the deal. Usually - only a very small portion of the whole deal, say: 1% or 1:100).

When your Forex deal is running, you can monitor its status and check scenarios online, whenever you wish. You may change some terms in the deal, or close it. Ultimately, you remain in control, only you can decide when the time is right to cash in your profit!

Some Forex brokers will even let you determine a "take-profit" rate, with which the deal will close automatically for you, when and if such rate occurs in the market. Meaning: you do not have to stay near your computer waiting for the right moment, you can go to work, go shopping, or even got to the beach while the money is rolling in! On the other hand you should also set up a stop (or stop-loss) for your trade, in order to avoid high losses.

Making profit from currency movements

As investor, your goal in Forex trading is to profit from foreign currency movements. In my first post about the FX market, I already mentioned, that currency trading is always done in currency pairs. For example, the exchange rate of EUR/USD on Aug 25th, 2003 was 1.0857. This number is also referred to as a "Forex rate" or just "rate" for short. If the you had bought 1000 euros on that date, he would have paid 1085.70 U.S. dollars. One year later, the Forex rate was 1.2083, which means that the value of the euro (the numerator of the EUR/USD ratio) increased in relation to the U.S. dollar. You could now sell the 1000 euros in order to receive 1208.30 dollars and make USD 122.60 profit.

(cross rates: 2010-11-11, 12:57 UTC, source: www.xe.com)

However, to know if the investor made a good investment, one needs to compare this investment option to alternative investments. At the very minimum, the return on investment (ROI) should be compared to the return on a "risk-free" investment. One example of a risk-free investment is long-term U.S. government bonds since there is practically no chance for a default, i.e. the U.S. government going bankrupt or being unable or unwilling to pay its debt obligation.

When trading currencies, trade only when you expect the currency you are buying to increase in value relative to the currency you are selling. If the currency you are buying does increase in value, you must sell back the other currency in order to lock in a profit. An open trade (also called an open position) is a trade in which a trader has bought or sold a particular currency pair and has not yet sold or bought back the equivalent amount to close the position.

However, it is estimated that anywhere from 70%-90% of the FX market is speculative. In other words, the person or institution that bought or sold the currency has no plan to actually take delivery of the currency in the end; rather, they were solely speculating on the movement of that particular currency.

Demo account

This is just a little update, to let you know I have set up a demo account at AVA FX. I am using their AVA Autotrader software and started playing around a little with different automated strategies. The demo account comes along with EUR100.000,00 to experiment with. A little too much for my taste, as it is pretty unrealistic for me. However, you can decide how much of that money you want to invest, of course.

Up until now everything is running smooth. No mentionable losses. The selected strategies seem to work pretty restrictive and do not open many trades, which is a good sign in my opinion. A total of 9 trades made around €2,200 profit within the past 24 hrs. As you can see in the picture, I tried to keep the risk-level low.

I will keep you informed about the development.

The foreign exchange market

FX - the FOREX market or currency market is the market where one currency is traded for another. It is one of the largest markets in the world.

Some of the participants in the FX are simply seeking to exchange a foreign currency for their own, like multinational corporations which have to pay wages and other expenses in different nations than they sell products in. Anyhow, a large part of the market is made up of currency traders, who speculate on movements in exchange rates, similar to others who speculate on the movements of stock prices.

(typical trading software)

Currency traders try to take advantage of even small fluctuations in exchange rates.

In the FX market there is little to no 'inside information'. Exchange rate fluctuations are usually caused by actual monetary flows as well as anticipations on global macroeconomic conditions. Significant news is released publicly so, at least in theory, everyone in the world receives the same news at the same time.

Currencies are traded against one another. Each pair of currencies thus constitutes an individual product and is traditionally noted XXX/YYY. For instance, EUR/USD is the price of the euro expressed in US dollars, as in 1 euro = 1.2045 dollar.

Unlike stocks and futures exchange, foreign exchange is indeed an interbank, over-the-counter (OTC) market which means there is no single universal exchange for specific currency pair.

The foreign exchange market operates 24 hours per day throughout the week between individuals with forex brokers, brokers with banks, and banks with banks. If the European session is ended the Asian session or US session will start, so all world currencies can be continually in trade. Traders can react to news when it breaks, rather than waiting for the market to open, as is the case with most other markets.

Average daily international foreign exchange trading volume was $1.89 trillion in April 2008 according to the BIS study.

Like any market there is a bid/offer spread (difference between buying price and selling price). On major currency crosses, the difference between the price at which a market maker will sell ("ask", or "offer") to a wholesale customer and the price at which the same market-maker will buy ("bid") from the same wholesale customer is minimal, usually only 1 or 2 pips. In the EUR/USD price of 1.4248 a pip would be the '8' at the end. So the bid/ask quote of EUR/USD might be 1.4248/1.4249.

This, of course, does not apply to retail customers. Most individual currency speculators will trade using a broker which will typically have a spread marked up to say 3-20 pips (so in our example 1.4247/1.4239 or 1.424/1.435). The broker will give their clients often huge amounts of margin, thereby facilitating clients spending more money on the bid/ask spread.

(1 minute chart displaying the fluctuation between GBP and USD)

The brokers are not regulated by the U.S. Securities and Exchange Commission (since they do not sell securities), so they are not bound by the same margin limits as stock brokerages. They do not typically charge margin interest, however since currency trades must be settled in 2 days, they will "resettle" open positions (again collecting the bid/ask spread).

Individual currency speculators can work during the day and trade in the evenings, taking advantage of the market's 24 hours trading day. 

Dear readers,


I would like to welcome you all to my new blog! In the following posts, I will put spotlight on the worldwide trading markets, review online trading platforms and give you some basic information about the financial glossary.


Of course, everyone is welcome to share their thoughts and experiences, so that all of us can benefit from that.