Trend Versus Range Trading In Forex: Which Is Better? – FinSMEs
futures, options, commodity traders fully understand that the trend
is your friend while others swear by trading within a range as if it
is foreshadowing future performance.
Is one trading
strategy or indication superior to the other for those trading with
leverage? First it is important to understand what
is leverage in forex. Foreign exchange traders with
access to leverage on their account should
pay particular attention as the wrong strategy could result in
significant losses in a very short period of time.
Trend Trading 101
Many forex traders prefer to trade a currency pair based on trends. Simply put, when a pair is clearly moving in one direction with little resistance, it is said the currency is trending up or is in an uptrend. Typically, an uptrend is defined by higher swing lows and higher wing highs.
Traders like to take
advantage of a strong trend when their analysis suggests there is
room for further upside. Of course, a trend remains a trend until it
doesn’t. In other words, a trend is your friend until it breaks
down and starts to show erratic characteristics.
Range Trading 101
is based on historical information. As the name implies, traders
assume that past history is likely to repeat itself. As such, prior
support levels represent an entry point while past resistance levels
signal a selling opportunity.
If prior resistance
and support levels are consistent over a two-year period, it is more
likely to work out as a trading strategy than a three-month period.
Similar to trend trading, range trading is a strategy that works
until it doesn’t.
Profit Potential Winner: Trend
A trader with access to 100 times leverage could double their account balance in one trade if they recognize early signs of a trend playing out. Such an opportunity might take place once every few decades, such as the British pound move post-Brexit, and this is exactly what savvy traders are looking for and ready to pounce on.
Suppose the EURUSD
pair rises more than 10 cents, a one-lot purchase on a $10,000
account would generate around $12,000 in profit in a few months.
By contrast, a range
trader would have sufficient reason to enter into the same trade at
the same time. But since they are relying on prior indications, they
will have pre-defined exit points already established. As such, a
strict range trader will sell the pair for a small profit and not
think twice about it instead of letting a momentum trade run its
Risk Management Winner: Trend
Risk management is
extremely important for forex traders to adhere to because of the
leveraged nature of their account.
Between the two
trading strategies, trend trading is a safer strategy for traders
looking to minimize losses. After all, the success or failure of a
trade is almost immediately known. If a pair continues in an uptrend,
the trade will be profitable. Tight and strict stops will force a
trader to exit a losing trade at a very fast pace.
In fact, the thesis
behind a range trade is that any near-term movement is disregarded.
The assumption of a range trade is that a currency pair will
eventually return to the target price. A trade could go
horribly wrong in the first days or weeks but over a longer-term, it
could play out exactly as originally expected.
The only problem is
a trader could have blown through their account balance while sitting
on the sidelines and waiting.
Conclusion: Trend Is Better
strategies might be a better general strategy as it allows for
superior profit potential and a stricter risk management strategy. Of
course, there is no one size fits all strategy, and traders that
swear by range trading will naturally disagree.
A paper account
gives traders the ability to dry run which of the two strategies
works best for them. Traders can even create their own strategy that
combines the two philosophies into one.
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