Two Essential Forex Concepts for Novice Traders

The foreign exchange (forex) market is the largest and most liquid financial market on the planet, due to sheer variety and volume of the multiple currencies employed by the world’s leading economies.  

In today’s globalised economy, individuals and businesses exchange currencies on a constanr, ongoing basis, in order to conduct transactions with other countries for the purposes of cross-border trade or overseas travel.  

According to figures from the Bank for International Settlements the daily trading volume for forex was as high as $6.6 trillion in 2019, for a near 30% increase compared to $5.1 trillion in 2016.  

Daily spot transactions on the global forex market total around $2 trillion, while forwards are $1 trillion and foreign exchange swaps $3.2 trillion. In addition to being the leader in terms of liquidity, trading volume and value, forex is the only financial market that operates on a 24/7 basis.  

Forex trading can be highly risk-fraught activity however, particularly given the dominant role of financial institutions such as commercial banks, monetary authorities, hedge funds and multinational corporations. By comparison, retail traders on the forex market account for a mere 5.5% share.  

For this reason, it’s critical for novice traders to be well apprised of fundamental strategies and concepts when making any forays into the heady waters of the forex market. Two of these key strategies for forex trading include the use of price breakouts and simple moving averages for the identification of trends.  

Price breakouts 

The breakout strategy involves identifying when prices enter a new trend by moving beyond their recent prevailing boundaries.  

Market price often enter a period of consolidation, when they only move between the two set boundaries of support and resistance. When prices move past these boundaries, this is referred to as a “price breakout”.  

While price breakouts can be isolated and brief, they can also mark the start of a new trend where market prices consolidate into a different set of support and resistance levels.  

For this reason, traders can use price breakouts to identify the potential start of new trends and use them as the basis for decision-making.  

A simple breakout strategy can involve buying when prices break out beyond the 20-day high, or conversely selling when they fall beneath the 20-day low. In order to alleviate the risk that breakouts do not result in ongoing trends, traders can also use time-based stop-loss orders to make an exit from position before they become too unprofitable  

Moving average crossover 

The moving average crossover strategy also involves the identification of changing trends on the forex market to uncover profitable trades.  

This strategy involves the use of the simple moving average (SMA) – which is the average price of a given asset over a designated time period. It’s referred to as a “moving” average, because of the use of bar charts to depict how the average value changes with the passage of time.  

It’s possible to identify the potential emergence of a new trend in prices by monitoring two different SMA’s for short and long periods, and locating where they intersect or crossover.  

An example of this is the use of a 25-day SMA in conjunction with a 200-day SMA. When the 25-day SMA rises above the 200-day SMA, this can be the sign of a bullish trend, because recent prices are higher than older prices.