Is a long-term approach better for forex trading? Or are forex traders better off choosing a short-term approach and booking smaller but more frequent profits? Our article today will compare both methods and provide our readers with the advantages and disadvantages of each. We will also explore what each method relies on for success.
The short-term approach to forex trading
The short-term approach to forex trading relies heavily on technical indicators. Traders have different preferences as to which indicators they will use. Most traders actually tend to use a combination of indicators to obtain the best market snapshot.
In terms of the specific indicators traders rely on for fast paced Forex, we usually find 2 categories of indicators: Either leading or lagging indicators. Leading indicators or Oscillators signal the potential profitable entry and exit relatively ahead of time.
Stochastics and RSI indictors are two popular choices for leading indicators and they indicate the overbought or oversold condition of the currency as well as Bullish or Bearish divergences.
Lagging indicators such as Simple moving averages, MACD and Bollinger bands happen after the fact and are used to confirm the move or the new trend that started on the chart.
Choosing a short-term approach to forex trading in general requires discipline, continuously booking small profits, controlling emotions (greed in particular) and cutting losses rather quickly to protect the invested capital.
As we can see, the short-term forex trading method allows traders to profit from the extremely volatile and liquid forex market. Traders can easily take advantage of indicators and the easy access to leverage to successfully trade in the forex market and profit from its high volatility and liquidity.
However, because with short-term trading preserving capital and cutting losses is crucial, the losses can ultimately add up especially since traders are competing nowadays with fast and sophisticated trading algorithms.
The long-term approach to forex trading
For Forex traders to choose a strategy that involves a longer-term hold, they need to identify or anticipate a strong trend. To identify the trend, they rely on a fundamental analysis at the local and international level. To be comprehensive, the analysis needs to include current and future economical and political events. If traders are successful in anticipating and acting on the upcoming trend, the gains could be simply spectacular and easily outshine returns from more frequent and riskier short-term trades.
Traders opting for this method can be very successful provided they analyse the market right, can withstand volatility and properly calculate the cost of a longer-term hold. Otherwise, the losses can be significant.
For instance, a trader could initiate a long position on a Currency pair based on the prospect or the actual increase in interest rates by the central bank of the country in question. This scenario could lead to an important gain especially on a longer-term hold. However, the increase in interest rates has to be the result of a healthy economic growth or an inflationary market. Otherwise, the trend could be broken and the trade could turn into a loss.
As we can see, a proper research and understanding of the economic events and underlying factors is extremely important when building a strategy. Another factor that is just as important is the cost of a longer hold in the Forex market.
Traders in the Forex market incur rollover costs on overnight positions. In fact, each currency has a different short-term interest rate based on the country’s fundamentals and the difference in the rates can become either profit for the trader or a loss that gets debited to the trading platforms account. Since the rate differential between a currency pair affects the Forex rollover rates, having a Broker offering better spreads can make quite the difference on the profits booked at the end of each trade. The cost of using leverage is also another factor be taken into consideration to avoid surprises.
To conclude, short-term trades in the Forex market can lead to frequent but small profits. However, with a thorough research and tools, a longer-term hold could lead to much better returns on investments for Forex traders. Proper money management planning and setting realistic profit targets can also help traders manage their risk and protect their profits.