Is It Voodoo?
Have you ever noticed that when traders/investors are discussing technical analysis, they either come down on the side of it works or no it doesn't. Either you buy it all, or not at all. Is there no third choice? There is. Take what works and leave what doesn't. For example, moving averages are very common in technical analysis. But do you know how many different kinds of moving averages there are now? Ever hear of the moving average of least squares? Or the triangulated moving average? How about the Hamming moving average?
Excuse me. Let's stop being ridiculous. There is definitely a point where technical analysis gets to be voodoo.
Where's the Volume
One of the fundamental cornerstones of technical analysis is volume. Guess what? We don't have volume in forex. Volume is how you measure how strong movement is in the market. Without that it's like trying to tie your shoe with one hand.
Yes, It Works
All that said, yes some technical analysis works. For example, MACD divergence with the price often signals a turn around in price. That works. In an uptrend, if the price pulls down and touches a moving average that has been acting as support, often the price will rebound. That works. Take what works. Leave the overly complex nonsense behind.
Total Analysis
Perhaps to make technical analysis really dangerous for forex we should go beyond merely staring at a chart. If you add in some fundamental analysis, and some of what the major banks at the major countries are doing and have done, then you have done total analysis.
In other words, what I'm suggesting is that you look at the big picture (the fundamentals) and the little picture (technical analysis). It's not really a new idea. But it is a really good idea.
You see, when you're watching the macro and micro, you'll start to get your finger on the pulse of the market. Then you will be a dangerous trader (that is, to other traders' account balances).
What Is A Cluster?
A Fibonacci cluster is when several fib lines are drawn from various highs and lows on a chart and several of the lines touch or are very close.
That's a mouthful. I'll show you several chart examples in a bit which will make it clear if you're not sure what I'm saying.
Software is made that can automate this process. If you're willing to spend $97 to $577, it can be yours. It's sold by FearGreed.com (opens a new window).
Why Software Isn't the Best Choice
Why might software not be the best choice for finding the clusters? First is the price. Second is why pay and have the computer do something you can do yourself? Especially since you'll gain a better feel for the forex market by doing it by hand.
It's not that hard really.
Manually
Look at this chart.
The black circles are the where the clusters are. The first one was blown through. The second one held. (Sorry that the colors are weird. I had to make them easily visible.) All I did was draw in fib lines for one thrust and then the thrust and extension, which became a larger thrust.
The support that held is a combo of the 61.8% and the 76.4% lines.
I truly think that if you're interested in trading clusters, before you spend the money, you should try mapping them out by hand. Obviously, if you really want to trade them, you'll want to get the software eventually. But at first, it's a good idea to just draw them in.
The easiest way to do it is to never erase your Fibonacci lines. Just keep drawing new ones over time. That way you will in a rather organic way see the clusters develop.
Example
In this example you have the cluster at 38.2% and 76.4%. There the price gets stuck in a sideways motion before shooting up.
All You Need Is Here
If you like to spend money needlessly, go ahead and buy a course on Fibonacci trading. Everything you need to know about this method of trading is here. I know that may come across as arrogant.
But realize this, the simpler something is the better. I'm going to give it to you straight here. I'm not throwing extras to complicate matters to make a $97 price justified. Apply what I tell you here to your trading and see for yourself.
1 - Fibonacci Isn't Magic
The fib numbers are made out to be magical or mystical by some. They say things like Fibonacci ratios rule the universe and that includes the financial markets. In the next breath they call the financial markets complex and chide you for expecting the price to stop on a Fibonacci level every time.
Well, which is it? Either there is some mystical force (and therefore the price should stop on the various levels without fail), or there is really nothing special in that sense about them.
Here is the truth of the matter. Markets thrust and retrace. Fib levels give us traders a framework to work with as we trade the thrust and pullback. That's it. And yes, they are very useful in trading.
2 - Cycles
The market moves in cycles. It's like a pendulum, from extreme to extreme. From high to low and back again. Markets also move from very volatile (the price is moving large amounts at a time) to hardly volatile. When the market contracts (less volatility), you know that it's getting ready to make a strong move (more volatile).
What is the simplest from of decreasing volatility in a market? Answer: the inside bar.
Now imagine if you got an inside bar on or very near on of the three major fib levels (38.2, 50, 61.8)? That's a very good indication that the market will ":bounce": off of that level.
3 - Patience
This can be the hardest part of trading. You must wait for a setup. You get restless. You just want to enter a trade. Wait. Don't waste your money.
4 - Entry and Stoploss
See the picture for how you'd enter.
Some people when trading Fibonacci, place there stop at the base of the thrust. Or if the bounce is at the thirty level, they place their stop at the 60 level. You can move it much closer. There is no reason to risk more money that necessary.
5 - Profits
First let me say, there is no best way to take profits every time. Some times you should just set a profit target and let the market take it out. Other times, you'd do better with a trailing stop. How do you know which to use? You don't.
Usually you're well served to place your profit target at the top of the move.
More examples
Trade The Cross?
Do moving averages work in forex? That's a strange question, you know. It's kind of like asking, "Is that woman beautiful?" The answer is neither yes or no, but rather, it depends.
One common way to trade with MAs (Moving (Averages) is to put a short one and a long one on the chart (e.g. a 5 period MA and a 13 period MA). Everyone who has been trading more than five minutes knows the set up. When the fast MA crosses up through the slow one, you go long. When the fast one goes down through the slow one, you go short. The picture is an example of a short signal.
Funny thing is, you trade this, and you'll find yourself getting chopped to bits as the market moves one way and then the other when it is ranging (moving sideways). People have tried to counter act this by adding more moving averages. I've seen people with six MAs on their charts. It's insane. The whipsaw will get you.
The ultimate proof is in computer backtesting. Many people (myself included) have written programs to test MA crosses. They are losers. Trading MA crosses doesn't work by itself. If you're really interest in them (perhaps they really fascinate you), you need to add a filter to help you determine when a trend is strong enough to enter on a cross. Perhaps you could use the ADX indicator. Anyway, carrying on…
Trade The Pullback
A better way to trade with MAs is to use them to help you see pullbacks. You've seen in the market; it thrusts and then pulls back before thrusting again. If you get in on that pullback, you stand to have a good trade.
Here's how to use the moving average to help you do just that. Pull up a chart of your favorite currency. Pick your favorite timeframe. Got it? Good.
Here is the subjective part. Put a moving average on that acts as support when the market is going up and resistance when the market is going down. Start with a 20 period MA and adjust from there. The average is too short if it's in the price bars. It should be under it in uptrends and on top of the price in a downtrend.
Now, how to trade it. In an uptrend when the market pulls back and touches the MA, that is your signal to go long. Trail your stoploss up to get out before the price turns on you. See the picture for an example.
Trend Identification
I don't if you can tell, I really don't think the ways mentioned above are the best way to use moving averages. The second method is far better than the first, but there is an even better way to use them.
What is it? Trend identification. In other words, which way is the price moving? I can hear some of you protesting already. "But moving averages lag. The trend has changed directions long ago and it takes forever for the MA to catch up!"
Really. You want an indicator that has no lag? Big news. It doesn't exist. ALL indicators lag. You want an indicator that perfectly picks tops and bottoms? It doesn't exist. Furthermore, supposing it did, you'd never hear about it.
So, MAs are good or determining trend direction. Then what? I personally like the whole concept of entering on a pullback. As far as I'm concerned, Fibonacci is as good as any other tool for calculating price retracements.
Here in the example the price moved up. Then started back down. The MA (in yellow) confirmed this. After some downward movement, the price started to move up. Drawing in the Fib lines showed in bouncing on the first line. The MA says the trend is still down, so we short the market and are rewarded with a profitable trade.
Volume?
Seeing as how forex doesn't have any accurate market-wide volume statistics, stay away from any indicator that uses volume. I know that sounds obvious. But many charting packages include volume (just from their clients' orders) and also include volume indicators.
They are worthless to you. Don't use them.
Really, It's Not the Indicator
You know, it's really not the indicator. It's the person using it. You can have the best indicator (or combination), but it doesn't matter if you don't use good money management. Or what if you don't even know how to read them? Then they are worthless. Remember, it's you.
The Real Test
The real test if an indicator is any good is whether or not it is robust. How do you determine if it's robust? Try it in different time frames. Try it in a different market. Does it work well in stocks? What about futures?
It doesn't have to work extremely well, but if it's a big loser in other time frames or in other markets, then dump it.
The Two Kings
There are many good indicators and different ways to use them. However, I'm going to give you my two favorites. You can use these to start making money immediately. There are; Bollinger Bands (the squeeze), and CCI (zero line reject).
The market moves in cycles--all kinds of cycles. One cycle that a lot of people miss is volatility. The market moves from more volatility to less. An easy way to see this is to put Bollinger bands on your chart. When they get tight together, there is less volatility. Soon the market will make a large move, moving back into the cycle of more volatility. Look for the price to break through one of the bands. See the picture for an example on a four hour chart of the EUR/USD cross.
Ken Wood didn't invent the CCI indicator, but he made it popular. He has a number of set ups on the CCI. I believe in simplicity, so here the simplest one. I like it best. It's called the zero line reject.
When the CCI goes to or near the zero line on the CCI and then begins to move away (bouncing off of it), you enter a trade. See the picture.
These are just two examples of proven indicators.
Are Day Trading Indicators Different?
Some people always want to know what is the newest technical indicator on the market? You don't need special indicators to day trade. Sure day trading is the hardest of all kinds of trading. Follow the test above. Does the indicator (or combination of them) work on the time frame you've chosen? Does it work on other time frames and in other markets? If so, then it is good.
Don't over-complicate things. Simpler is better because you are less likely to make a mistake, and in day trading the tolerance for mistakes is almost zero.
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