A lot more trading opportunities can occur during an increase in a volatile forex market. Here are 5 things to keep in mind when trading in this type of market:
1. Look at smaller trading positions: At a one percent or even a half percent margin, forex investors should keep in mind how much leverage, or even the size position being traded and how it can affect their portfolio.
When you are looking to make about 50-100 pips in normal market conditions, placing a 2 lot position is ok. However in more volatile times, when the potential loss is 100-200 pips, it does not become an effective risk to reward ratio. Online forex traders should look to taking on smaller trading positions, such as one lot as opposed to the average 2 lot position.
2. Tighter stops are necessary: Many traders see the large swing increases in the forex market and are hesitant to use tighter stops. They see the likelihood that the position will be taken out. Great risk managers, in times of extreme volatility, can be produced by having tighter stops. For example, on a EUR/USD trade, rather than setting an 80 pip stop to protect your position, consider placing a 50-60 pip stop. This will insure the protection of your forex currency position. If the stop is broken, it is more likely that the trend will continue lower and this stop stops you from losing more money.
Stops during volatile market conditions should not be as wide as before. The width of the stop being set depends on the foreign currency pair being traded. Some pairs have wider ranges. In a Yen cross like the GBP/JPY or AUD/JPY, traders may be more likely to have wider stops as their average daily range is 50% more than that of the EUR/USD. For example instead of having a stop of 100 pips below entering, traders may consider have a 75 pip stop instead. As an example of a very volatile day, the EUR/USD had an impressive range of nearly 600 pips but the GBP/JPY had a nearly 2000 pip trading range.
3. Selectively trade: Foreign currency traders are often tempted to place more trades as the forex market is going wild and take advantage of all the trading opportunities. Not a good idea in volatile times, losses will probably be big. Before placing a trade, decide how much risk is acceptable for the trader psychologically and financially. Instead of trading a highly fluctuating pair, shift interest somewhere else until the forex market has settled down.
4. Be more discipline when trading: Follow pre-determined trading strategies in volatile foreign currency trading markets. Hold back and be self-disciplined. Stick to any set stops, alternate plans or risk benchmarks. This can define the risk being taken, if the forex market becomes uncontrollable.
5. Don't trade until you know the reasons for the volatility: Find out what is causing the current spate of volatility in the markets in order to be prepared for the unexpected. This enables an investor to accommodate their market environment strategy and not just the currency pair being traded. One of the first considerations is to find out what kind of emotions are in a market: is it fear driving the market lower or a buyer's mania driving the bullish atmosphere? Traders' overreaction and emotion tend to push markets and create volatility through simple supply and demand.
Economic events can also make the forex market volatile. Market participants should interpret fundamental data differently. A perfect example of this is usually monthly manufacturing reports that are released in pretty much all industrial economies.
Experienced traders and novice traders can sometimes wonder why the market sold off if manufacturing showed positive growth. The answer is really simple, the forex market had a different interpretation of the reports and positions were violently reshaped and shifted.
In certain market environments panic selling and buying, not to be confused with fear or greed, can create very choppy and relatively untraceable markets. These conditions will lead to flip flopping of positions by some and leave others gaping at the fact that the position was right, only to be stopped out too early. These two common examples will lead to further panic and volatility as traders forgo their own individual strategy to seek out the possibility of instant profits or stoppage revenge. A vicious cycle of volatility can occur and continue until a definitive market direction can be established.
Following these five simple steps, while trading in a volatile forex market, should make it a little simpler. In a few words, adjust leverage based on volatility, stick to how much risk your pre-determined trading plan, use tight stops and don't jump into every trade that looks good.
