The thing about trading is that it isn't an exact science, and there is no such thing as a "right" way or a "wrong" way. Oh, if it were only that easy, we'd all be doing it. :wink:
Everybody seems to be looking for something different from their trades, and there are obviously many different approaches that you can employ.
Some people will look to scalp 3 or 4 pips at a time, while others will be happy to stay in their trades for days or more in the hope they can rack up gains of hundreds of pips. Some people will follow chart patterns, some people will follow indicators, some people will trade ranges and others will probably just flip a coin.
The best way of describing my personal approach is that I trade with the trend. My most useful tools are, believe it or not, a ruler and a pencil. That's right, the sort of thing which you can find in any corner shop for about 50p.
There's a saying in trading that you should "trade what you see, not what you think". Simply "thinking" that a particular stock or instrument such as a forex pair is about to rise is no justification whatsoever to purchase that instrument. Just because something looks cheap at its current price, doesn't mean that it can't get cheaper.
Statistically, the chances are that, if the price is still falling, it will probably continue to fall further.
So how do you know whether something is rising or falling in price? Simply by looking at the chart, of course. If you take your 50p ruler and pencil, you should be able to draw a line through the recent highs and the recent lows on the chart. If the last low was higher than the low before and your line is going up, then this means that the trend is up.
Similarly, if the last high was lower than the high before and your line is going down, then the trend is down.
These lines are called trendlines and my personal trading style is to ONLY TRADE IN THE SAME DIRECTION AS THE TREND.
Here's an example of what I mean. I've drawn parallel trendlines on the chart to form what are called trend channels. You can click on the image below to view a larger version in its own window.
Drawing trendlines and channels as I've done in my example makes it easy to identify a direction in which to trade.
Having identified the direction, it's easy to also manage any trades because stop-losses can be stationed just beyond the trend line. Also, if you know how far away your stop-loss is, it's easy to calculate the size of the trade and manage your risk. For instance, if you were entering a long trade close to a rising support line, you would take a larger position than if you were entering the trade in the middle part of the channel. This is because your stop-loss would be nearer to the trade entry price.
The other benefit of trading with the trend is that the trend provides strength if you get your entry wrong. If you enter a trade and it goes against you initially, there is a greater chance of the trade coming back in your favour, than if you are trading against the trend.
Finally, by producing parallel channels as I've done in my example, you've got an idea of where the price is going to halt and either consolidate for a while or retrace a bit. I generally stay out of the market completely while the price consolidates or retraces. It's a dangerous time to enter the market, so I use those times to go shopping or get my nails done.
As I said at the beginning of this article, trading isn't an exact science and it won't always be possible to clearly identify the trend. There will also be times when the price quickly breaks a trend and this method won't be right 100% of the time.
It's certainly a good start though, and trading with the trend will definitely stack the odds more in your favour than if you are trading against it. Trends can be strong, so why bother to fight them?