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If there is a Holy Grail in trading this is the only one that exists. Trading is a statistical approach to market data and the only thing professional traders try to do is minimize risk. Risk is always there especially in Forex market which is a high risk-high reward market.

Money management is the strategy applied to minimize losses and maximize profits. Consider this example. A trader begins trading with 1000 USD account. If he loses the 25% of this amount then has to profit 33% of the remaining money (750 USD) to reach 1000 USD. If he loses half the money then has to replenish 100% of the remaining money (500 USD). See how much percentage of profit based on the remaining money has to get to replenish the loss if he loses 75% of the original account. This example shows us how careful one should be when trading. Mind your loses. Let the profits come!

There are 3 golden rules in money management:

1.Never risk more that 10% of your account per trade.
This means that if you have a 1000 USD account you should never risk more that 100 USD per trade.

2.Your risk per reward ratio should be at least 1:2
This means that if you decide to trade then for example you should risk 30 pips only (implement stop loss orders always) when you expect a 60 pips profit at least (limit order).
Analyze the market. Have a trading plan. Always use stop loss orders and limit orders with 1:2 ratio. This way you may have two trades wrong but the third trade right and not lose a penny. In the course of time the possibilities of being profitable are with your side.

3. Never put a trade without stop loss. And I mean never! Do not expect the market to save you when you are positioned wrong.

Bollinger bands consist of three lines. It is a statistical approach to Forex trading. Upper and lower lines are two standard deviations above and below a 20-day exponential moving average. Standard deviation is a statistical measure of volatility. These bands area always adjusting: widening during volatile markets (market are volatile when a there is a lot of price action) and contracting during non so volatile market periods.

Using two standard deviations ensures that 95% of the price data will fall between the two Bollinger bands. This is the statistical meaning of the two standard deviations. Prices are considered to be overbought, or better, statistically overextended to the upside when they touch the upper band and oversold or overextended to the downside when they touch the lower band.

One could use the upper and lower bands as price targets. If price bounces off the lower band and crosses above the 20 day average then the upper band becomes the upper price target and vice versa.

In a strong uptrend prices tend to fluctuate between the upper band and the 20 day moving average. A crossing of the 20 day average warns of a possible reversal to the downside.
A move that originates at one band tends to go all the way to the other band. This observation is useful when projecting price targets. The figure below (Figure 5.11) shows the use of Bollinger Bands in real market. Study carefully Bollinger Bands. They are one of the most useful tools in live trading.

Illustration of a chart with Bollinger Bands

Stochastic Oscillator consists of two lines that oscillate between a vertical scale of 0 to 100. %K is the main line. It is moving faster that %D line. %D line is the second line and is a moving average of %K.

Stochastic works better in broad trading ranges or in a mild trend with a slight upward or downward bias. The worst market for normal use of stochastic is a persistent trending market that has only minor corrections. Although, one could trade stochastic by ignoring the usual overbought and oversold levels and entering the market when the end of a reaction against the trend is signaled by a crossover from any level.

There are three ways to interpret the Stochastic Oscillator:

1)Buy when the oscillator (%K or %D) falls below 20 and then rises back above that level. Sell when oscillator rises above 80 and then falls below that level. Extra caution: If the oscillator reaches the extremes of the scale it should not be interpreted that the currency will necessarily reverse in the immediate future. It will indeed reverse but it may be between the next day and several days after. Unfortunately with stochastic it is impossible to know the time interval between the signal appearance and the price reversal.

2)Buy when the %K line rises above the %D line and sell when the %K line falls below the %D line. (crossovers)

2)Look for the classic divergences, that is prices making new highs as the stochastic oscillator fails to surpass the previous highs.

Slow stochastic oscillator is using a technique to smooth the lines reaction in an attempt to reduce volatility and improve signal accuracy. This oscillator is most popular among traders because it provides less but more accurate trading signals.

Illustration of stochastic oversold level and crossover

Illustration of stochastic divergence

MACD displays the correlation between a 26-day and 12-day exponential moving average. In addition there is a 9-day exponential moving average (which is the signal or the trigger) line plotted on top.There are three most used ways to trade the MACD
 Crossovers: sell when the MACD falls below its signal line and buy when the MACD rises above it. One could also buy or sell when the MACD goes above or below zero.
 Overbought or oversold areas: if the shorter moving average pulls away dramatically from the longer moving average and the MACD rises it is likely that the price is overextended and will soon return to more realistic levels
 Divergences: the end of the trend may be near when MACD diverges from the price of a currency pair. A bullish divergence occurs when the MACD is making new highs while the price fails to follow. A bearish divergence occurs when the MACD is making new lows while prices fail to follow. These divergences are most significant when they occur at relatively overbought or oversold levels, that is after extended market moves

Illustration of a MACD crossover

Illustration of MACD divergence

Illustration of MACD overbought area and crossover

Moving averages provide the average of the price action over time. There are three types of moving averages:
 Simple moving average(SMA)
 Linearly weighted moving average(WMA)
 Exponential moving average (EMA)

The time period of these averages that most people take into account is 4, 9 and 18 days for day traders and 20, 40, 100 and 200 days for longer term trading.

Select exponential moving average from your charting service. Give the charting package the above values and see the result. You have three moving averages in your chart. Look the figure below. We have a 10 day moving average (blue line), 20 line moving average (pink line) and 40 moving average (green line)

Longer term moving averages especially 100 and 200 days often act as strong resistance or support for the price. Look the figure below and notice how market respected 100 (blue line) and 200 day (pink line) moving averages as support lines.

Looking closer we may notice a head and shoulder pattern evolving and having as neckline the 100 day moving average. Isn’t it beautiful? When you will practice what you will learn in this book a new beautiful world will evolve in front of your eyes in the previously “desert” charts that seemed confusing.

When a shorter period moving average intersects a longer period moving average you may take this into account for a possible trend reversal hint. Look the first figure. The shorter period moving average (blue) intersected pink line (20 day moving average) and then green line (40 day moving average). This signaled that the previous trend changed and this trend reversal continued until the shorter moving average intersected upwards this time the longer moving average at the right end of the figure.

Moving averages are lagging indicators. Price takes action and moving average follows.
Some people are using moving averages extensively and design trading systems based solely on them.

Crowd behavior can help you a great deal in understanding technical analysis in Forex. Every investor has three basic emotions when trading: Greed for money money, fear to lose his profits and despair when he finds himself trapped in a wrong position. These emotions can be charted in any Forex chart and some researchers seem to believe that the Forex market cycles can be depicted by the correct appliance of the market sentiment.

Have you ever noticed an impulse wave in a Forex chart? An impulse wave is a wave that moves very fast, in an impulsive manner towards one direction. This wave charts the greed ingredient of Forex market investors: A lot of people realize that the new direction of the market can be very profitable and jump in and hold their position. Greed is never satisfied but when the move has gone too long, too far some investors begin to be overwhelmed by fear and liquify their positions to secure their profits. This is depicted in a Forex chart as a correction. Nevertheless when the correction makes its own way a lot of people see the new opportunity and jump in again. The previous trend resumes it’s way and so on. When people are overwhelmed by despair and fear to lose their hard earned money by some negative fundamental changes in economical environment they liquify their positions in the risky markets as Options or Forex and resolve to more safe investments as bonds or gold. This is the turning points of a market crash.

These changes in investors’ sentiment move the markets. The professional trader should have the discipline to use its own set of rules (his Forex system) and ignore the sentiments of greed and fear. Moreover he should have the instict to recognize the sentiment of the market that is to feel what the majority of other investors feel about the market. This is the most difficult task for an investor because this conception of the market can ofter be very blurred by his own emotions.

Behavioral finance studies these emotions and how they affect the market. Dow Theory includes some investor sentiment ideals to explain the market cycles. In my opinion the market sentiment is best explained with Elliot Wave Theory. This theory is a very complex theory but when mastered, the forecasting results can be extraordinary for the trader. Elliot Wave Theory, in a summary, supports the fact that due the emotions of the traders every market cycle is comprised by 5 impulse waves and 3 corrective waves. It is a very interesting theory with great forecasting potential but the trader needs to study and practice it a lot in order to master it.

There are a lot of books written by many authors about Elliot Wave Theory. The most of them present a very complicated theory with a very complicated manner. This has no practical value for a trader. During my research I found a book that helped me apply the Elliot Wave Theory practically. It is called “Applying the Elliot Wave Theory Profitably” by Steven W. Poser. The author presents Elliot Wave Theory with Forex oriented material and in a very practical way. Click here to see this book in Amazon.com

If you would like to see some real trading examples of my experience in Elliot Wave Theory you could watch the videos below. Thank you.

The psychology of the trader plays a very important role in his trading decisions and style. The best traders keep their sentiments (greed and fear) out of their analysis and decide to trade with clear mind. Follow the advices below and you will notice a great deal of improvement in your trading style.

Never trade when your mind is occupied with other things. Try to be concentrated on the market. Try to feel the market, that is the Market Sentiment. When you feel overwhelmed of the information in your head, take a break. Then come back with clearer mind. Do not be trigger happy with your trades and always have a trading plan. Follow your Forex system with discipline. Apply the rules of Money Management with care. Always mind your loses! Then let the profits come. Stop loss orders are there to save you by yourself. Always use them and never stay on a false trade just to feed your ego. Ego never makes money! Even the best traders are often wrong. But market is always right!

The best traders have the vigilance to realize the market sentiment quickly and ride the market in the right position. Even when they are wrong at first, they quickly change their posiotions when they realize it!