How to improve your chart interpretation

Traders that understand how to read and interpret their charts have an unfair and distinct advantage over most people trading the market today. Many traders think they know how to interpret their charts, yet they continue to fail in their trading.

What follow are 4 tips that will improve the way we look at charts:

Is all about the Waves

The market moves in waves. While everybody always talks about trends and riding the trend to maximum profits. The truth is that no trend shoots straight up without retracing on the way up. Think of it as taking four steps forward and two steps back. You will see this type of movement even in the strongest of trends. People make profits and people take profits along the way as the trend continues to go up or down. A lot of traders leave of the profit on the table because get out of a trade too soon, not realizing that trends is still going strong and what they are seeing is a retracement. Ranges also develop in waves. To that end, the interpretation of ranges and trends in your chart is critical. When trading, always keep in mind that trend will move up/down, pullback a little, and then continue the trend to pullback again and so forth and so on.
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Learn to identify when the Trend Reverses

While a lot of money is made riding a trend, the great paradox of trading is that traders give most of it right back when the trend reverses. This sounds almost like a contradiction to the ride the waves to profit rule above. Obviously, a pull back is very different than a trend reversal thus the importance for traders to be able to interpret their charts correctly. Where we should ride a pullback to more profits, we must exit a trade when the trend reverses.

The easiest way to identify a trend reversal is through the use of trend lines. For example, in an uptrend, the lines are going to be drawn using the higher highs and at the higher lows. These two lines should create an upward channel. When you start seeing a few of lower lows combined with lower highs breaking support, a trend reversal may be developing. Also look for when the uptrend reaches a resistance point to the higher highs and lower lows develop with it, look for a possible trend reversal developing. Trend lines are not perfect, but are a helpful tool.
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The Coiled Spring may wipe out your profits

Currency pairs, often go from big moves to being flat to big moves again. When the currencies are in the consolidation stage or flat mode, many traders try to profit at this stage. Remember that we discussed in previous posts that this stage happens 60% of the time. The profits made at this stage are small and, depending on the duration of this stage, may all be wiped out when the market breaks out of this stage. This breakout is like releasing a coiled spring, breaking hard out of the flat mode and wiping out all your profits. Only very experienced traders should trade at this stage. A safer strategy is to wait for a breakout and to trade with the momentum that the breakout generates.

Always keep an eye on the Spread

By now, you should know that, in Forex, spreads cost money. Without volatility the spread usually cost more because there is less profit to be made. My advice is to avoid trading when volatility is absent. Try to trade during the times of higher volume like, for example, when the US and the European markets overlap, the USDEUR pairing is on the move. Conversely, when those markets are closed, the same pairing is much quieter.

Following these 4 simple rules will simplify and improve the interpretation of your chart and, by default, give you an unfair advantage of the many other traders that don’t follow these simple rules.
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These are 6 indicators that you must learn

Every Forex trader knows that you must supplement the information in your charts with a number of technical indicators. Among the indicators commonly used are strength indicators, volatility indicators, trend indicators and cycle indicators. These indicators not only help us determine in which the market is moving, but also when a trend is about to end and we should either exit the trade or, with a good signal, reverse the trade.

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The following 6 indicators are the most commonly used among Forex traders:

Stochastic oscillator – The stochastic oscillator helps a trader determine the strength or weakness of a currency by comparing the closing price to a price range over a period of time. When the trader identifies a high stochastic that said currency may be overbought and you should go short or bearish. Conversely, a low stochastic indicates that a currency may be oversold and you should go bullish or long.

Bollinger Bands – Bollinger bands contain the majority of a currency’s price between the bands it displays. Each band has three lines – the lower and upper lines show the price movement and the middle line shows the average price of the currency. When the market is experiencing high volatility, the gap between the lower and upper bands will increase. In you candlestick or bar chart, the currency is considered overbought if a bar/candlestick touches the upper band and oversold if bar/candlestick touches the lower band.

Average Directional Movement (ADX) – ADX is used to determine whether a currency is entering into a new uptrend or a downstrend. The ADX is also used to determine how strong the trend is.

Relative Strength Indicator (RSI) – RSI uses a 0 to 100 scale to indicate the highest and lowest prices over a period of time. When prices of a currency rise over 70 the currency is presumed to be overbought. On the other hand, a price below 30 would most likely indicate that a currency is oversold.

Simple Moving Average (SMA) – The SMA is the average currency price for a given period of time compared to other prices during the same time periods. To illustrate how SMA works, the closing prices over a 7 day period will have a SMA equal to the addition of the previous 7 closing currency prices divided by 7.

Moving Average Convergence/Divergence (MACD) – MACD is another oscillator that shows momentum of a currency as it relates to the two moving averages. As we discussed in previous articles, when the MACD lines cross, that crossing may indicate the start of an uptrend or a downtrend.
By creating a combination of indicators that compliment each other, you will be able to better determine your entry and exit points and become more profitable.
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MACD indicator still rules as one of the best

One of the most commonly used indicators is the Moving Average Convergence and Divergence (MACD). The MACD is one of the oldest and most used oscillators.

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In MACD, a currency is oversold if a low value is indicated and, at that point, the currency is likely to reverse and start an uptrend. On the other hand, a currency is overbought when a consistent high value is indicated and, in this scenario, the currency will likely start a downtrend soon.
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The MACD chart uses 3 exponential moving averages (EMA). The most commonly used combination of values for these 3 averages is (12, 26, 9). These three values create a 2-part indicator. The top part is the currency’s 12 day and a 26 day EMA. The 12 day is the faster EMA and the 26 day is the slower EMA.

These 2 EMAs can be used to determine momentum of a currency. In our setup, when the 12-day EMA is above the 26-day EMA the currency is considered to be in an uptrend. The opposite is true for a downtrend with the 26-day EMA being above the 12-day EMA. When 12-Day EMA goes faster than the 26-Day EMA, the uptrend becomes more pronounced and gets stronger. Once the 12-day EMA slows down and the 26-day EMA closes the gap between the two, that usually indicates that the uptrend is coming to an end.

The 9-day EMA is known as the histogram. The histogram shows the difference between the fast and the slow EMAs. In a chart, as the faster and slower EMA separate, the histogram gets bigger. This separation is called divergence because one of the EMAs is moving away or diverging from the the other.

The MACD is a great indicator used by many traders to help determine trends and changes in trend. However, MACD should never be used alone and should always be used in combination with additional indicators such as stochastic to help you confirm the start and end of trends as they develop.
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How to use the relative strength index to make you a better trader

Every experienced Forex trader should know the four Relative Strength Index (RSI) trends in a currency cycle. The four cycles are: the positive and negative phases of divergence and reversal. These 4 RSI cycles have a direct correlation with determining the trend of a currency.

In the Positive divergence cycle, the price of the currency moves upwards and is considered to be bullish. This upwards movement helps the currency gain momentum. With momentum comes an increase in volume helping the currency price to keep climbing. As you identify this upward trend, you should enter the trade by purchasing the currency and keeping it until it hits its peak. Once the currency hits the peak of uptrend, a negative reversal starts to develop.
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A negative reversal starts when the positive divergence loses momentum. Even if the price continues to increase, you will see a slow-down of momentum and a decrease in volume. When both momentum and volume decrease, that signals that a negative reversal is developing. The negative reversal starts once the price stops moving upwards and starts to fall. At this point the price hits the highest point and you should close your open trades to pocket your profits. Of course, at this point you will also see this cycle turn into a negative divergence.

A negative divergence happens when the sentiment of the market turns from bullish to bearish and the price goes on a downfall or down trend. Many traders like to try to make profit in both movements by selling or shorting the currency here. However, a more advisable strategy is to sit and wait until the price hits rock bottom and a positive reversal starts to develop.

A positive reversal may be the most profitable position in your chart. At this point, the currency price hits rock bottom and it is starting a reversal and moving upwards again. Once you identify a positive reversal, you should buy the currency again. This cycle points the cheapest price of a currency and, in the long run, will yield you the most profits by following these simple steps.

As you can see, divergence and reversal cycles are an integral part of a currency behavior. By mastering the 4 RSI cycles, you could make great profits. Every trader should have a “go to” strategy when everything else seems to fail. This simple strategy may be that “go to” strategy and should be integrated to your trading toolbox.
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How to use the breakout cycle to make you profits

A Forex trader is always aware of which of the 3 trading cycles (consolidation, breakout, or trend) a currency is before entering a trade. One of the most popular strategies to make a profitable trade is a channel breakout.

A channel in Forex trading is created by drawing lines between support and resistance in a chart when the market is in a consolidation mode. A consolidation is easy to identify in your chart with, the most common pattern being two almost horizontal parallel lines making your support and resistance levels. These two lines form a trading range in which the currency is trading over the period of time set in your chart whether it is a day chart or a six month chart or whichever time frame you choose.
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As the name suggests, a channel breakout occurs when the price of a currency breaks either of the support or resistance channel lines. When the price breaks the resistance level, the currency is believed to be at the start of an uptrend. On the other hand, if the price breaks the bottom line, the market is believed to be at the start of a down trend.

Keep in mind that not every not every crossover of the lines should be considered a breakout. By using a combination of technical indicators such as Pivot Points, MACD, RSI, and candlesticks to determine price breaks, you should be able to differentiate a false breakout from a real breakout and trend setter.

By mastering this simple strategy you can make significant profits. If you set your trade properly with a tight stop-loss, you will minimize your losses or even make small profits if you entered a false breakout. The profits you make from a real breakout will more than make up for your small losses from the false ones.

Most professional traders use channel breakouts as part of their trading arsenal. By using technical indicators they can tell with almost absolute certainty when a breakout is occurring and, in those few occasions when the signals were false, their tight stop-loss help minimize their losses. When done properly this strategy can lead to great profits.
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How to use volume and trend indicators to make you money

You should never make a trade based only on a trend indicator. The Volume Oscillator (VO) is another indicator that will help you determine whether a trend is breaking support or resistance. In essence, the old saying is true: without volume there is no price movement and without price movement there is no volume. Use that old saying to your advantage.

Several oscillators like the Percentage Volume Oscillator (PVO) and the Market Volume Oscillator (MVO) and are based on the VO.

The VO calculation is based on two Volume Moving Averages (VMAs). The base of calculation is simple:

VO = [Fast VMA] / [Slow VMA]

The Fast VMA is short term moving average, and the Slow VMA is a long term moving average.
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If we use set a VO (5, 20) as an example, the setting would be the Fast VMA to 5 bars and the Slow VMA ito 20 bars. At 5 bars, the Fast VMA is the shorter period and, at 20 bars, the Slow VMA is the longer period.

In essence, the VO calculates the difference between 2 VMAs. This calculation reveals surges in volume and possible abnormal volume activity. The VO tell us where the current volume is in relationship to the average volume over a longer period of time.

If we take a look at the VO setting above, that means that when the VO is over 1 then the Fast VMA is over the Slow MVA and we can conclude that the volume activity in the market is higher than usual. In other words, we can conclude that there is an unusual volume surge based on the parameters we set (5,20).
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By knowing how the basis of calculation works in the VO, the indicator becomes a very effective tool in your trading. You should never solely rely on trend based technical indicators. By doing so, you will only see one half of the total picture and it will lead to more losses than wins. When you combine your trend indicators with an oscillator like the VO, you will be able to distinguish whether the changes in the trend are based on abnormal volume activity and make a better decision as to whether to enter a trade.

A final thought is that you should consider a break in support combined with unusual volume activity as panic selling and the opposite is true with a break of resistance with an unusual volume surge which should be considered as greedy buying.
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What is the best trading method for you to use?

Trading is summarized by 2 methods, the subjective method and the rule-based method. Both methods have their merits, however, if you are not a seasoned and successful trader, you should strictly use the rule-based method.

The subjective trading method combines multiple pieces of information to make a trading decision which can’t be precisely defined in rule form. Subjective traders trade based on guidelines and not rules. With an established set of guidelines an expert trader has the flexibility to change a trade when new information is available. In some instances, where a rule-based system may pass on a trade, a subjective based trader may take a trade based on the “feel” for the market. A rule-based system doesn’t have such flexibility.

Unlike the subjective trading method, the rule trading method is simple and, because the rules are specifically predefined, it is mostly stress-free. The predefined rules account for your entry, stop loss, and take profit values among others. All new traders as well as those traders struggling to become profitable should use a rule-based method to refine their trading before ever considering a subjective method.

A rule-based system is designed to “set and forget.” Once your orders are placed, they continue to progress until one of the following happen: you are either stopped out or your target price hits. As a trader, once a trade is placed, you never interfere with it until one of the actions previously mentioned happen. Since all entries are done following a specific predetermined set of rules, these rules must be followed until you exit the trade.

With a system like 1000 Pips Climber, the highly advanced and rigorously tested Forex trading algorithm is already developed and predefined for you. This system will provide you easy-to-follow signals that are very precise and clear. Since the system is ruled based, whenever a signal is produced you enter a trade. This takes away all the guess work and uncertainties of trading. The system does all the analytics for you and gives you clear entry, stop loss, and take profit values. All you need to do is follow the signals that the system produce. You remain fully in control of your trading account and can have the confidence in knowing you are following professional signals generated by a strictly predefined set of rules.

With a rule-based system, there is not guessing of what a trade will look like. Your entry and exit are precisely defined by the predetermined rule and, for that reason, the system can be easily tested for profitability.

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