Identifying Good and Bad Market Conditions to Trade
Hello traders, welcome to the Price Action Course and the second module “Keep It Simple Stupid: The KISS Approach.” In this lesson you will learn how to identify good and bad trading conditions. This is very important because with the KISS approach you are looking to trade strong markets, markets that are moving. Because if you focus on markets that are in a very narrow range, it’s going to take a lot of time to make a profit and it actually is going to drain you psychologically. So not only we are going to be using simple analysis to determine good and bad market conditions, but we are also going to focus on the economic calendar to know what market is strong and what market to avoid.
So, let’s start by asking ourselves why do we need to know when to trade and where to trade or what market to trade. This is simple, it’s important to be patient and wait for the correct market conditions to trade. The reason is that it’s much easier to trade nice bounces and breakouts than it is to trade narrow and choppy ranges. And not only it’s easier, but if you have enough patience to only trade the nice bounces and breakouts, you are going to be less psychologically drained and you are going to see where you can grow. It is very, very tiring to try to make a profit out of bad market conditions.
To do this we need to choose the correct currency pairs to trade, and how do we choose the correct currency pairs to trade? Well, that’s easy. We do this by looking at the economic calendar. For example, if we have big US dollar week news, we are going to look to trade the US dollar, the Aussie-US dollar, the US dollar-yen, and maybe the New Zealand dollar-US dollar. And this is because, these are the pairs that react the most when hard or big US dollar news hits the wires. You also have to know, well, you have to understand the news that you are reading or you are listening to. And if your are not experienced with the economic calendar or news trade-in, what I recommend you to do is that you wait until the news is released and then just watch your charts and see the direction of the move and then just apply what we have learned so far and wait for price to retrace to your levels and just follow the move. By knowing which currency has important news coming on the week, you will know what currency pairs to look at or to trade.
The reason is that news move the markets and big news yield big moves. Fundamentals are important for the KISS approach. For example, and this is an example that happened… it was actually very unexpected, at the end of 2014, the Fed ended quantitative easing on the United States, but at the same time the Bank of Japan announced a quantitative easing. So, what happened was that when the Fed ended the queue on the United States, this made the US dollar rally, and when it was announced that the queue was starting in Japan, that made the yen drop. So the trade to look at was to go along the US dollar-Japanese yen. And why is that? Because when the US dollar appreciates, the US dollar-Japanese yen appreciates also. And when the yen drops, the US dollar appreciates because the yen is depreciating. So if you understand the fundamentals behind the currency, you are going to understand which are the markets that you need to pick to trade and which are the markets that are going to yield the better profits.
Now, we’re going to go to the charts and I’m going to show you these US dollar-Japanese yen example and we’re going to look at some other charts, so we can filter out good and bad conditions just by reading the charts or just by a simple chart analysis.
So, here’s the US dollar-Japanese yen forward chart and I’m going to show you where this news hit the wires. Now, the first thing you need to look at is this nice triangle formation that was going on the US dollar-Japanese yen. We were making lower highs and the US dollar-yen was rallying from this low. So we were inside of a triangle formation and we were waiting for the break up. This is the forward chart, but if you go lower on time frames you can actually draw some trend lines around here and you could also have drawn this trend line right here, and I was one of the persons that was short around these levels. These levels were around the 108, which was a round number, was a third test on this descending trend line and I have my stops above this highs and when the news hit the wire, you can see a sharp move to the up side and then, of course, a continuation of more than 1,000 Pibs to the upside. So the fundamentals were there, the fundamentals were strong, so we were looking to trade the US-Japanese yen and the trade was going long, the US dollar-Japanese yen, and buying every single [inaudible 06:38] until the 122 handle where actually big money, I think big money took profit from this long position of the yen, that they were from the breakout of 100 and well, price just collapsed 400 to 500 Pibs and then moved back up and we are now just ranging right here. But this is what I want you to understand, when you have fundamentals that back-up big, nice move, you should always look to trade that currency pair.
This is the US dollar-Japanese yen, let’s go to the Euro-Swiss franc, okay? I’m going to show you what bad market condition looks like. This is the Euro-Swiss franc 4-hour chart and to be honest, I never trade this currency pair, I hate it. Just look at how small the ranges are. This is a 10 Pib range and then a false 20 Pib break out and then you have these crazy moves to the up and to the down and you can also draw trend lines and you can see that market hardly respects it. It is just so hard to trade a market that is not moving at all, and when it does it has a huge ups and downs and all the candles have huge wicks. Just look at this, let me thicken this out for you guys. Just look at this crazy move to the up side, yes, I agree that price hit this descending trend line and then moved back down, but this happened so quickly that without limit orders, would be impossible to take the entire move. But take a look at what I’m talking about, let’s say that you were trading the Euro-Swiss franc instead of the US dollar-Japanese yen, where the US dollar-Japanese yen yield more than 1,000 Pib move, you are going to be fighting to get 5 Pibs out of these narrow and choppy range and you are going to have to be getting in and out of the market at every single bounce. And by doing so your exposure will be much, much larger than just taking a nice break out in a nice rally that’s 200, 300 Pib rally.
If you don’t leave your ego behind and you want to fight this narrow and untradeable ranges or untradeable markets, go ahead, but what you need to understand with this lesson is that look at the economic calendar, understand the news behind it, look where the market is going and then trade your levels and your rejections, focus on price action and if price action is telling you “don’t trade me,” like the Euro-Swiss franc is telling us right here, don’t do it and go look for another market, okay?
If you want to know more about ranges and how to narrow down good market conditions, you can go to the technical analysis course where we do have a nice lesson on how to spot untradeable ranges.