hitchhikersguidetofx

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A Hitch-hikers Guide to the Forex Market

By www.thetradersclub.com

Contents:

Key #1: Preparation

Key #2: ToolsKey #3: MentoringKey #4: Market price movementKey #5: Risk and Randomness

Key #6: ProbabilityKey #7: Price Action

Key #8: Risk exposureKey #9: Patience

Key #10: Enjoy your Trading!

Many people I meet seem fascinated when I tell them that I trade currencies for a

living. I imagine they fantasize about huge sums of money being made and lostduring frantic moments of trading where lightening quick reactions and a roll ofthe dice determine the outcome of todays bet, and possibly the size of my nextcar. Nothing could be further from the truth. I have been trading Forex for over 8years now as a full time occupation. I have had successes and I have hadfailures, but above all, I have grown as a trader and as a person. In this little E-book, I want to take you through the basics of trading Forex, which arecompletely opposite to the picture I have just painted. When you reach the end,you will see why.

The big question is If so many people fail at trading (I have been told

around 95%) then how can I beat the crowd and succeed

Well, hopefully this little book will help to answer that question for you and giveyou some of the keys for success. I say keys because I truly believe thats whatthey are, and if you use them properly, you can unlock the door to success. Theproblem with keys, unfortunately, is that few people are prepared to use themproperly. Using keys requires several qualities which many people simply do notpossess or are unwilling to use; qualities such as hard work, perseverance,enthusiasm, determination, study, and so on.

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I will assume that you possess some or all of these qualities and now lead youthrough the steps (keys) which I firmly believe can turn you into a profitabletrader and a master technician.

Learn the bank Forex system yourself click here

Key number 1: Preparation

This is going to sound terribly boring to some readers, but the first step in anybusiness is to learn from the experts.

Pilots dont try to fly a plane without going to flight school. Builders dont try tobuild a house without studying building management, and Engineers dont try tofix a machine without studying engineering. I am firmly of the belief that you

should not take a single trade with real money until you have read and studiedthe basics of technical analysis. I am a technical trader, so I am recommendingtechnical analysis. Other traders will rely more on fundamentals and that is quitefine with me. I know that technical trading works, and works well, so that is what Iuse.

What are the basics? Well there are hundreds of books on the market on thesubject of Forex and trading, but there are a few which I highly recommend. Thatis not to say that you should only read these books, but you should start withthem and make sure you have read each one several times before trading asingle cent of real money. They are listed in order of reading so you can start

with the first one on the list and continue through the list:

The books are listed at www.thetradersclub.com/read.htm and, although wehighly recommend all the books in the list, the books on technical charting andprobability and statistics are the ones I highly recommend you read first.

Please take this advice seriously. Yes, it costs money to buy books, but thebooks I have recommended to you are key reading material and they will giveyou an excellent foundation in your trading.

I also recommend the E-book called G7 Forex which can be downloaded

instantly at www.thetradersclub.com

How do I know? Because I wrote the G7 system and the book follows theconcepts in this E-book, and is the basis for the way I trade and make moneyevery month from Forex!

If you dont invest in knowledge, you wont succeed in anything

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Key number 2: Tools

There are several things you need to trade currencies online. Firstly you need agood computer and internet connection, secondly you need good technical chartsand thirdly you need a good broker (market maker). I am not going to suggestwhich tools you should be using, but I can tell you that if any of those three itemsare not working properly, you will have problems.

Make sure that you have a good enough computer and internet connection,which will not let you down in critical moments. This might sound basic, buttrading is only about money and timing. A poor computer setup could well loseyou money if it fails during a trade or during a time when you need to enter a

trade.

Use good charts. In the following sections you will see that the key to goodanalysis is to have good charts which can display what you need in a clear visualformat without you having to click on icons to bring up information or having topage between windows to find the information you need. Once again, there areseveral good chart providers on the market find the one which is right for you.

Make sure you use a safe, honest broker. About 50% of the online brokers outthere are probably neither safe or honest, so do your homework. Particularlywatch for brokers who are not insured, do not have any credentials, have low or

zero spreads, use gorilla marketing tactics etc etc. If possible, use a brokerwhich is part of a listed company, where you know your money is at least part ofa bigger, safer pool.


Key number 3: Mentoring

We highly recommend that traders get a good mentor when they start out. Theproblem is are there any genuine mentors? A lot of the mentors advertisingtheir service online are simply charlatans and losers. Try to find someone you

know is highly recommended and is REALLY a trader. Its no good trying to learnfrom the multitude of so-called trainers who have never managed to turn a profitin a live trading account. The classic blind leading the blind scenario!

Ok lets move onto the meaty stuff stuff to do with trading and charting. I willtry to aim the rest of this E-book at the right level, but I am aware as I write this,that there are more and less experienced traders reading at this point, so I willhave to walk a delicately fine line. I am going to divide the rest of the book into

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the following sections, and hope that we can somehow muddle through thesetopics in a comprehensive, yet clear and interesting manner.

Market price movementRisk/RandomnessProbabilityPrice action (PAPA principle)Risk ExposureProfit Goals


Key number 4: Market price movement

As trading the Forex market, or any other market for that matter, is all about pricemovement, it is essential that every trader gets a feel for how this happens. Weall know that the price moves up and down, but we need to get to know how itmoves and when it moves. For example, I know that the price of the EUR/USD islikely to move 80-100 pips per day on average, with extreme days movingpossibly 200-300 pips. I know that after a strong move, the price is likely toretrace to a predictable level. I know that the price moves strongly during theEuropean session and especially during the news releases in the NY session,but can drift quietly during the Asian session. I know that price tends to stall atcertain levels, such as round numbers and at the 20 and 80 price levels onany currency chart. And so on.There are many more insights and little gems I

have picked up over the years. How have I picked them up? Simply fromwatching the charts and observing for myself. This takes time andconcentration, but it has paid off! I suggest that you do the same, and try torecognize patterns which you can come to rely on in future trades. Spend timewatching the charts and how the price moves at certain times of the day and youwill be surprised at how much you will pick up.

There are several price movement patterns which I want to point out to you andwhich will form the basis of the keys in this book.

1. The market never moves in one direction for too long it always retraces

or corrects at some stage. We can trade towards the correction or afterthe correction.

2. The corrections begin when the probability for continued price movementin the same direction drops

3. The corrections often stop at predictable levels4. Reversals are heralded by reversal patterns

These are the principles which will help you to become a profitable trader. Letsleave them for now, as they will permeate through the rest of the chapters of thisbook.

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Key number 5: Risk and Randomness

Put this in your pipe and smoke it:

The market is not predictable and the market is always at risk of extremelyunexpected movement.

The sooner you accept these principles the better. If you do not accept them,eventually you will no longer be trading Forex and you will be back in your day

job. Probably sooner rather than later! These are probably the two biggest killersfor traders:

They feel that they can predict the market (WRONG!) And they feel that even ifthey get it wrong, the price will come back the other way at some stage(WRONG!)

The end result? Getting the direction wrong, and receiving a margin call when theprice is 1000 pips on the wrong side of your entry level.

How can we combat these problems? Well its actually very easy.

Firstly we must accept that the market is not predictable and that we are likely to

get our trades wrong somewhere between 50% and 20% of the time (dependingon your ability). Getting stopped out of a trade does not mean bad analysis orbad trading. Accept the loss and wait for the next trade.

Secondly we accept that huge adverse price movements are quite possible andwe remember to keep reasonable stop losses to make it easy to recover. Dontkeep moving your stop or averaging down into the adverse price movement.JUST DONT DO IT! Get caught into this trap and you WILL eventually looseyour whole account, even if the first few times it works out for you. Stops shouldgenerally be between 20 and 60 pips for the major currencies.

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Key number 6: Probability

I was going to suggest that this is THE most important of all they keys, but thatsnot true they are all equally important. The probability key has got to do withwhat I have called the PAPA principle. PAPA stands for Probability AndPrice Action and the idea behind this is very simple and should govern everysingle trade you make. This principle will help you determine:

Which direction to trade in

Which price level to enter at

What trigger to use to determine the timing of the entry

Now I dont have to tell you that if you have these three pieces of information,you have everything you need for a successful trade! But remember we aredealing with probability in this chapter, and not certainty. We are looking for cluesto give us a high probability of winning and we are not expecting a certainty.

OK how does PAPA work? Well, firstly, we want to only enter the market whenwe know that the probability is in our favour. It amazes me how many traders areprepared to enter a trade without knowing the first thing about the likelihood ofwinning. In fact, many traders enter the market most times in what I term no-mans land These are zones on the chart where there is no reason to enter thetrade at all.

So how do we know when the probability is in our favour? Think back to keynumber 4:

The market never moves in one direction for ever it always retraces orcorrects at some stage. We can trade towards the correction or after thecorrection.

The corrections begin when the probability for continued price movementin the same direction drops

The corrections often stop at predictable levels

Reversals are heralded by reversal patterns

The probability of the price reversing increases the further it goes in onedirection. We can determine these probabilities by using simple charting tools,such as overbought/oversold indicators. I also have my own system ofdetermining probability using mathematical and statistical calculations.

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Anyway to cut a long story short, here is how you can apply the PAPA principle:

1. Try to go with the current trend on daily/weekly charts, but find a pointwhere you can determine the trend has reversed. When this point isbreached, stop trading in the trend direction, and stand aside. There arealways more opportunities to make money, but dont keep trying to pick atop or bottom.

2. Trade mostly in the direction of that trend, but be prepared to trade againstthe trend on occasion as well

3. If you are going with the trend (for example up) then wait for the price tocome down to a high probability area, determined by:

a. A key chart level (I use Fibonacci and horizontal levels extensively)b. An oversold condition (Try some of the standard indicators)c. A high probability of reversal from a statistical perspective (this is

not easy for everyone to determine, but it certainly helps)4. If going against the trend, make sure that point 3 above is in place, but

also look for a major daily level to trade off.5. Wait for a trigger before trading (see the next chapter)


In summary, price action is governed to a certain extent by probability.

It can never be predicted with certainty, but we CAN determine probabilities.Each trade is taken on the basis that we have say 65% chance of winning (in

reality this will be between 50% and 75% for experienced traders. I averagearound 70%)

The knowledge that each trade is only a gamble based on the probability isrefreshing. It relieves the pain of losing a trade (expect to lose 30-50%) and itprevents us from taking too much risk. We will talk about risk in a later chapter.


Key number 7: Price action

We have determined that trades should only be entered when the probability foran entry is high enough, which is determined by, for example, particularretracement levels (eg; Fibonacci), overbought/sold indicators and perhaps amathematical calculation as well.

We have determined that we should try to go with the trend, but that counter-trend trading is also acceptable, if the conditions are right.

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We also said that, if everything else is in place, we still need a trigger toencourage us to enter the trade. Actually, the trigger plays another role inassisting with risk exposure determination as well, and we will come to that later.

One of the keys to successful trading is to wait for a trigger before entering atrade. There are many different ways to find and use a trigger, such as usingshort term charts (for example 5 or 15 minute charts) and technical triggers suchas moving average crosses, stochastic crosses, breakouts, MACD and a varietyof others. However, all of these triggers are created by what we call laggingindicators which only give the trigger signal well after the actual price movementhas occurred. The quickest and most reliable triggers are those related to theactual price action itself.

I use candlestick patterns as my trigger to enter each trade. In a nutshell, I wait

for a reversal pattern to form on the one hour charts using candlestick analysis.Candlestick charting has been around for hundreds of years and was first usedby the Japanese to determine optimal entries into the rice market, and thistechnique still exists today, still being highly reliable and very quick to show whenthe charts are likely to change direction. This is why I recommended purchasingthe book on candlestick charting by Steve Nison earlier in this book.

So how does it exactly work? Well its as simple as this:

Once I have decided the direction of my trade,Which levels I am interested in trading from,

And when the probabilities are in my favour,

I simply wait for a reversal pattern on the hourly charts to trigger my entry.Reversal patterns using candlesticks can be spotted on any time frame of charts,from 1 minute to 1 week charts, but the smaller time frame you choose, the lessreliable the patterns become. A reversal pattern on the weekly chart is muchmore significant than a reversal pattern on a 1 minute chart, for example.

Reversal patterns can take many shapes and forms, but they can be summarizeddown into probably 3-4 particular patterns which occur most frequently, are theeasiest to spot and are the most reliable. I like to use the following patterns:

Spikes, such as Dojis, shooting stars, and hammers

Engulfing candles, both bullish and bearish

Dark cloud covers

Piercing patterns

Evening and morning stars

Outside candles

Unless you understand candle patterns, have read a good book on the subjectand observed these formations on real time charts, you will not understand what

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this is all about. Read the book I have recommended and it will all become clear.Its not as mystical as it sounds at all, and these patterns are actually easy-to-spot natural occurrences due to normal price action in all markets.

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Some of the common patterns I have mentioned are included in the diagramsbelow:

Piercing Line - This is a bullish pattern. The firstcandle is a long bear candle followed by a long bullcandle. The bull candle opens lower than the bears

low but closes more than halfway above the middle ofthe bear candles body.

Hammer- The hammer is a bullish pattern if it occursafter a significant downtrend. If the line occurs aftera significant uptrend, it is called a hanging man. Asmall body and a long wick identify a hammer. Thebody can be clear or filled in.

Morning Star - This is a bullish pattern signifying a

potential bottom. The star indicates a possiblereversal and the bullish (blue) candle confirms this.

The star can be a bullish (blue) or a bearish (red)candle.

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Bullish Engulfing Lines - This pattern is stronglybullish if it occurs after a significant downtrend (itmay serve as a reversal pattern). It occurs when a

small bearish (red) candle is engulfed by a largebullish (blue) candle.

Dark Cloud Cover - This is a bearish pattern. The

pattern is more significant if the second candles bodyis below the center of the previous candles body.

Bearish Engulfing Lines - This pattern is strongly

bearish if it occurs after a significant uptrend (it mayserve as a reversal pattern). It occurs when a smallbullish (blue) candle is engulfed by a large bearish

(red) candle.

Hanging Man - This pattern is bearish if it occurs aftera significant uptrend. If this pattern occurs after asignificant downtrend, it is called a hammer. Ahanging man is identified by small candle bodies and

a long wick below the bodies (can be either blue orred).

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Evening Star - This is a bearish pattern signifying apotential top. The star indicates a possible reversaland the bearish (red) candle confirms this. The star

can be a bullish (blue) candle or a bearish (red)candle.

Doji Star - This star indicates a reversal and a doji

indicates indecision. Thus, this pattern usuallyindicates a reversal following an indecisive period.One should wait for a confirmation (like an evening

star) before trading a doji star.

Spinning Tops - This is a neutral pattern that occurswhen the distance between the high and low, and the

distance between the open and close, are relativelysmall.

Doji - This candle implies indecision. The open andclose are the same.

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Key number 8: Risk exposure

Many traders expose themselves to far too much risk, and that almost alwaysends in disaster. If you want to last as a trader, you have to be extremelydisciplined when it comes to risk. This means suppressing the emotions andrelying on probability, logic and common sense, none of which comes naturally tothe human mind.

I guess there are five rules which should be applied on this subject, and if youcan manage to apply these rules every single time you trade, there should be noreason for you to fail (as long as you have even a half decent trading system)

Risk Rule number 1 keep tight stop losses. This is easier said than done,purely due to the emotional tendency to increase stop losses when a loss isimminent, or to add extra positions to an already losing trade. As we havestressed before JUST DONT DO IT! You can always re-enter the market onceyou have been stopped out for a small loss, but it is much harder to recover aftera huge loss, when your account is down by a significant percentage.

When using candlestick reversal patterns as the entry trigger, simple place thestop loss 5-10 pips below the low of the reversal candle if buying, or 5-10 pipsabove the reversal candle if selling. This will, in most cases, allow you to use astop loss of between 20 and 50 pips, with no more than 60 pips as a rule.

Risk Rule number 2 Do not leverage your account more than required. Whilstwe cannot recommend the right leverage for your own trading, we suggest aleverage of no more than 10:1 and preferably 5:1 or lower. This means youshould not trade more than 10k for each 1k in your trading account, preferably nomore than 5k per 1k in your account. If you stick to rules 1 and 2, you will neverbe exposing more than about 2% of your account in a losing trade.

Risk Rule number 3 enter one currency at a time to start with. If you feel thatthere is a BUY signal on the Euro, the Pound and the Yen all at the same time,rather enter only one currency to start with. For example, enter only the Euro and

see how the trade goes. If you win the trade, you didnt need the other twocurrencies, but if you lose the trade, you didnt lose too much, and you then havea chance to re-enter the same currency and another at a better entry price. Inother words, if your direction is short the Dollar, start shorting with one pair only,and then work your way into the other pairs later on if you lose the first trade.This discipline will help you to minimize risk, but maximize opportunities whenthey come along.

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Risk Rule number 4 - Aim for at profits at least twice the size of your stop loss.In other words, if your stop is 30 pips on a trade, be sure to aim for at least 60pips if the trade is a winner. It is not always possible to do this, but at least have itas a goal. If you are able to stick to this discipline, you can win only 50% of yourtrades and yet still make a healthy monthly profit.

Risk Rule number 5 When you have reached your weekly or monthly target,STOP TRADING! I generally aim for 300-400 pips per month (60-100 per week)and stop trading when I have reached those targets. Doing so has severalbenefits:

You protect your profits

You avoid over-trading

You take advantage of the cyclical nature of most trading models

You get a well earned rest on occasion

Your results become more consistent

An example of a perfect PAPA based trade entry using our system

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The trade entry above, taken in July 2006, is an example of the high probability,low risk trading possible, using the principles in the E-book. This trade wasinitiated using the G7 trading system (available at www.thetradersclub.com andbased on the concepts in this book). The green arrow points out the entry leveland reversal candle which triggered the trade, from a pre-defined level andprobability area. As you can see, the trade had a maximum risk of 30 pips andwent on to generate over 100 pips of profit. This is not uncommon using the G7system, which has a winning ratio of well over 70%.


Key number 9: PATIENCE!!

Part of the art of trading is patience. Sometimes it is harder to wait for a good

trade setup than it is to enter the market in impatience. Good trades are notalways available and our job is simply to wait for them to come along, no matterhow long it takes I am quite prepared to wait for several days, even a weekbefore taking the next trade.

This way, we keep losses minimal and we only enter high probability setups.

ALL THAT MATTERS IS THE END RESULT. We simply want to end each monthwith 200-400 pips (even a 100 will do just fine), whether it takes 30 trades or 1trade. I am writing this because I know that some of you have itchy trigger fingersand you simply cant wait for the next setup. BE PATIENT. The goal IS NOT to

trade frequently - the goal is to end each month safely with a profit.


Key number 10: Enjoy your trading!

Trading the Forex market can be one of the most wonderful careers there is. But,like anything, you must enjoy it and be passionate about it to get the most benefitfrom it. Trading is not for everyone, and if you have started out in trading but findthat you cannot deal with the various stresses involved walk away from it now.

However, if you are passionate, enthusiastic and excited about trading and youhave had a taste of success, there is no reason why you should not go on tomake a fantastic living from this dynamic and rewarding career.

I hope you have enjoyed my small E-book and that it has given you some foodfor thought. Obviously, I couldnt fit all I want to say into this small space, but ifyou want to know more about the principles I have outlined here, please visit myprofessional services at:

www.thetradersclub.com

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or email me on [email protected] with any questions you have on thistopic or my services.

Regards,James.
http://www.pdffactory.com/http://www.pdffactory.com/mailto:[email protected]:[email protected]

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