This week’s question comes from Tshepo, who asks:
What are the factors that you look into or take into consideration before entering a trade?
Listing each and every factor wouldn’t do this question justice. Every setup is different and therefore has a unique set of factors that can make or break it.
So listing out each one would lead to more confusion than anything else.
Instead, I decided to take a different angle. I’ve included three factors that I consider on each and every setup, regardless of market conditions. These considerations will lead to more confidence and greater profits.
At the heart of the question above is that of how to increase confidence as a Forex trader. Do that, and you’ll begin to let profits run, cut losses short and control unwanted emotions.
An increase in confidence will also allow you to be more patient between trades.
How can it do that, you ask?
If you’re confident in your abilities, you won’t feel pressured to trade every day. Your average profit per trade will increase, and your average loss will decrease, allowing you to trade less frequently.
You’ll also be less inclined to revenge trade. After all, if you have the confidence necessary to be successful, you’ll know that the next winner is just around the corner.
1. Find a Confluence (of Support or Resistance)
Want to make one change to your trading that will equal greater confidence and more profits?
Silly question, right?
Find areas that offer a confluence of support or resistance.
That’s it. Do this one simple thing, and I can all but guarantee your trading will improve.
But let’s not get ahead of ourselves. You may be wondering, what is an area of confluence? Or perhaps you’re curious what the term even means.
Put simply, a confluence is an area where two or more things intersect.
In the world of trading, it typically means the intersection of two or more key levels. These can be trend lines, horizontal support or resistance, and even Fibonacci retracement levels.
The idea here is to trade from areas that offer more reasons to do so.
Think of it like this…
Consider the following two responses from the question below.
Why did you sell the AUDUSD from the 0.7700 area?
- Because there is a horizontal level in the area
- Because there is a horizontal level in the area plus two trend lines, one that began ten months ago and another that dates back nearly two years
Which response makes you feel more confident about selling the AUDUSD from 0.7700?
Of course, the second response is much more reassuring. Instead of having just one level in the region, we have three key levels that intersect near 0.7700.
These two additional reasons help justify the decision to sell and in return give you more confidence in the setup.
That increase in confidence means you’re more likely to let profits run and less likely to fall victim to emotional decision making.
2. Sentiment and Momentum Are Synonymous
Everyone wants to identify the sentiment of a market. This is the feeling or tone of a market and is often found in conversations about market psychology.
Numerous indices have been developed to help traders do just that. It seems every financial news outlet from CNN to Bloomberg has one of their own.
Most call it a “fear and greed index” or similar. Essentially, a high level of greed means participants favor riskier assets while a reading of fear signals a flight to safety.
But here’s the deal…
All of those terms and concepts boil down to one simple realization – sentiment and momentum are synonymous. Said differently, the trend will tell you whether a market is bullish or bearish.
Everything you need is already on the chart.
Now, the tricky part is making sense of the various trend durations. For that, be sure to check out the post on conflicting market trends.
If you want to increase your confidence as a Forex trader (I assume you do otherwise you wouldn’t be here), trade with the momentum.
And I’m not talking about whether a few retail traders are bullish or bearish the EURUSD. Because let’s face it, most retail traders get it wrong more often than not.
You need to do an independent analysis and come to your own conclusion. Use the higher time frames and focus on the major swing highs and lows. But above all, keep it simple.
The truth is that all you need to figure out the sentiment of a market is on the chart. Everything else is redundant.
3. When in Doubt, Wait for Confirming Price Action
I sometimes get emails asking if I only trade pin bars. Perhaps this is because I started with pin bars years ago, so that was my focus when I created this site.
The answer is no; I don’t only trade pin bars. In fact, I don’t always wait for confirming price action either.
What is confirming price action?
It could be a pin bar that forms at key support. Or maybe it’s an engulfing pattern that develops at key resistance after an extended rally.
Whatever the case, it’s a candlestick pattern that helps to confirm the validity of a given level.
After I describe this, the next question usually goes something like this:
How do you know when to wait for confirming price action versus just buying or selling at support or resistance respectively?
My first response is always the same – it’s a personal decision and one that you have to discover for yourself.
It’s also not that clear cut. No two setups are the same. Market conditions will vary as will risk to reward ratios, among other things.
However, my rule of thumb is that unless I have momentum and confluence on my side, I wait for confirming price action.
The same can be said for a range bound market. If the EURUSD has been bouncing back and forth in a 300 pip range, I’ll wait for confirming price action before considering an entry.
Using the AUDUSD example above, if the pair had retested a confluence of resistance at 0.7700 within a broad downtrend, I’d be more inclined to forgo a price action sell signal.
I use a candlestick pattern like the pin bar to validate the significance of a level. So if I have two or more key levels that intersect in a given area, I don’t necessarily need to wait for confirmation.
In essence, the combination of confluence and momentum is enough to justify an entry, or at least trigger that decision-making process.
It all boils down to the factors surrounding your decisions. Find more (valid) reasons to buy or sell a market and your confidence will skyrocket.
Once that happens, you can begin to put unwanted emotions to bed.
As a Forex trader, an increase in confidence is what will allow you to stick to your game plan. It enables you to hold profitable trades longer and cut losses quickly.
One of the most important things you can do to increase confidence and take better trades is to focus on finding areas that offer a confluence. By trading from stronger support and resistance areas, you’ll inevitably develop a higher sense of confidence.
You don’t need a sophisticated algorithm or indicator to determine a market’s sentiment. All you need to do is follow the momentum (trend).
The most profitable setups often develop at a confluence of support or resistance and in the direction of the overall trend. Combining these two factors alone can drastically improve your trading performance.
Confirming price action is an excellent way to validate the significance of a given area. If I’m trading against the trend or an area without much confluence, I always make sure to confirm an idea to buy or sell with a price action signal.
Your Turn: Ask Justin Anything
I’d love for this new weekly Q&A to be successful and provide an invaluable repository of answers to common Forex questions.
To do that, I need your help.
Here’s what you can do to get involved and have your question answered in next week’s post:
- Ask questions. Post them in the comments below or Tweet them to me @JustinBennettFX
- Help me answer questions. If I missed something or if you have something to add, don’t hesitate to leave a comment below.