By James Chen, CTA,CMT
The Official Advocate for Personal Investing Originally published JANUARY 2011. SFO magazine.
FX Chart AnalysisTake 2
One primary characteristic of trading forex differentiates it mark-
edly from trading in all other major financial markets. This is the
pairing requirement. Only the spot forex market, in contrast with
equities, commodities, bonds and other markets, requires each
trade to consist of two entities rather than one.
In the forex market, traders have the singular ability to
buy strength while simultaneously
selling weakness, thereby increasing the robustness of their directional
bias within a single trading position.
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The fact that currencies in the spot forex
market must be traded in pairs is a key ad-
vantage, especially when this characteristic is
combined with multiple timeframe analysis.
THE MAJORSAll currencies, including the major ones—
U.S. dollar (USD), euro (EUR), Japanese yen
(JPY), British pound (GBP), Swiss franc
(CHF), Australian dollar (AUD) and Ca-
nadian dollar (CAD)—cannot be traded in
isolation. Rather, they must be traded in
standardized pairs such as EUR/USD, AUD/
CAD or CHF/JPY.
USE THE EDGEOnce you understand the mechanics of trading
currencies, you should use this characteristic of
opposing currencies to your advantage.
The best method for accomplishing this is
through the use of strength and weakness
pairings. More specifically, you should pair the
strongest currencies with the weakest curren-
cies—long the strong and short the weak.
This pairing of strength and weakness
extremes fosters magnified directional
strength. Trend traders in all financial mar-
kets tend to buy strength or sell weakness.
In the forex market, you have the singular
ability to buy strength while simultaneously
selling weakness, thereby increasing the
robustness of your directional bias within a
single trading position.
HOW DO YOU PICK?The theory of strength and weakness pairings
may be logical, but the practical application of
identifying strength and weakness in currencies
can pose a challenge because you can accom-
plish it in several ways.
Although there may not be a best method
of spotting strength and weakness, perhaps
the most objective and accurate way, which
excludes all opinions, analyses and shades of
gray, is via price change.
More specifically, it is the percentage price
change of a currency, whether positive or
negative, during a given timeframe against
other currencies that makes such relationships
clear. This measurement provides an objective
and accurate gauge of a currency’s strength or
weakness against others.
To give a simple example of this method
for gauging currency strength and weakness,
suppose you want to determine the recent
strength or weakness of the U.S. dollar against
all other major currencies. You could take a
look at a chart of the U.S. Dollar Index, which
is a measure of the dollar against a weighted
basket of foreign currencies.
This would suffice for the greenback, but you
have little in the way of an equivalent for the
other major currencies.
Therefore, to employ a consistent compari-
son across currencies, the clearest and sim-
When trading these pairs, you must keep
in mind that buying (going long) the pair is
equivalent to buying the first currency (base
currency) while simultaneously selling, or
shorting, the second currency (counter cur-
rency). Therefore, a long EUR/USD position,
for example, would consist of a simultaneous
long euro position and short dollar position.
Conversely, a short EUR/USD would consist
of a simultaneous short euro position and long
dollar position.
You can also perform the multiple timeframe analysis on other major currencies. When this is complete, you should have strength and weak-ness data for all of the major currencies across three different timeframes.
Practically speaking, if you are to perform this analysis continually, you should employ some kind of dynamic database or spread-sheet that performs these calculations on an automatic and ongoing basis, rather than
subjecting yourself to the laborious process of manual data entry.
Once the strength and weakness data is ob-tained on an ongoing basis for the different cur-rencies across various timeframes, putting this information to practical use simply becomes a matter of waiting for the timeframes to agree in terms of identifying the strongest and weakest currencies for potential trading opportunities.
Use a Spreadsheet
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plest methodology is to take each currency
in question and compare its percentage price
change against those of the others for a cer-
tain period.
TAKE AN AVERAGEIn the example of USD, you can take its
change in price against EUR, JPY, GBP, CHF,
AUD and CAD for a week, for example, and
then take an average of these percentages.
You can use the resulting average percent-
age as a measure of the relative strength and
weakness of the dollar.
Although this methodology does not weight
each currency differently in the average,
as the U.S. Dollar Index does, it suffices for
providing a relative strength and weakness
measure among currencies.
You can use this same system simultane-
ously to measure the average percentage
price change of each major currency against
all others. After you obtain this information,
you can formulate a hierarchy of currencies
from the strongest to the weakest according
to each currency’s average percentage price
change for the given period.
The best way to perform these simple cal-
culations on an ongoing basis is through the
use of some type of spreadsheet or database,
where you can enter currency pair prices. This
simplifies the ongoing process of strength and
weakness comparisons tremendously.
MULTIPLE TIMEFRAMESOnce you establish the methodology for com-
paring currencies on a strength and weakness
basis, you can introduce the critical element of
multiple timeframe analysis.
There is essentially one primary condition
that you should seek when trading from mul-
tiple timeframe perspectives. That condition
is agreement.
There are often different trends and other
price action phenomena on various timeframes.
But when agreement occurs on several key time-
frames, a higher probability opportunity arises
both to assess correctly the directional bias as
well as to optimize your trade entries and exits.
As an example of this multiple timeframe
strength and weakness analysis, suppose you
want to assess currency strength and weak-
ness for three timeframes. For the purpose of
simplicity, you could choose weekly, daily and
hourly timeframes.
Once these are selected, you can initiate the
process for assessing strength and weakness
among currencies.
For JPY on the weekly timeframe, for ex-
ample, this would entail measuring the per-
centage price change from exactly one week
Copyright 2011 by Wasendorf & Associates Inc. All rights reserved. No part of this publication may be reproduced or transmitted in any form by any means, electronic or mechanical including posting to another website, photocopying, recording or by any informative storage and retrieval system without the written permission of Wasendorf & Associates Inc.’s President.
This article is strictly the opinion and conjecture of its writers and is intended solely for informative and educational purposes and is not to be construed, under any circumstances, by implication or otherwise, as an offer to sell or a solicitation to buy or trade in any commodities or securities herein named. This article is not meant to recommend, promote or in any way imply the effectiveness of any trading system, strategy or approach. Information is obtained from sources believed to be reliable, but is in no way guaranteed. Further, there is no guarantee of any kind that is implied or possible where projections of future conditions are attempted. The publisher is not liable for typographical errors.
Commodity futures, securities, options and forex trading involve risk and are not suitable investments for everyone. Any investment should be carefully considered in light of an investor’s personal financial objectives and risk tolerance.
The article contained herein may provide hypothetical or simulated performance results. Hypothetical or simulated performance results have certain inherent limitations. Unlike an actual performance record, simulated results do not represent actual trading. Also, since the trades have not actually been executed, the results may have over- or undercompensated for the impact, if any, of certain market factors such as the lack of liquidity. Simulated trading programs are also subject to the fact that they are designed with the benefit of hindsight. No representation is being made that any account will or is likely to achieve profits or losses similar to those shown. Further, past performance does not guarantee future results.
There are often very different trends and other price action phenomena on
different timeframes.
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weakest would a trading signal using this ap-
proach be of higher accuracy and reliability.
For example, if strength and weakness analy-
ses for one week, 24-hours and one hour prior to
the current time all show that the pound is the
strongest currency and the franc is the weakest,
then you could consider the signal to buy GBP/
CHF to be strong.
GETTING OUTIn terms of trade exits, you can establish
criteria whereby, for example, when the
strongest/weakest currencies are no longer
the strongest/weakest on one, two or all three
of the timeframes, then an exit signal can be
generated.
CONFIRMATIONWhat exactly does multiple timeframe agree-
ment of strength and weakness represent? Sim-
ply, it shows trend and momentum agreement.
The strongest and weakest currencies on the
longest timeframe represent the overall trend.
If the middle timeframe agrees, price may
have just recovered from a retracement, cor-
rection or pullback and is now resuming in the
direction of the trend. Finally, if the shortest
timeframe agrees, you can consider short-term
momentum to be in the direction of the higher
two timeframes.
This agreement makes for a high-probability
forex trading approach that focuses on pin-
pointing the correct directional bias.
With this multiple timeframe strength/weak-
ness approach, you can take full advantage of
one of the most unique characteristics inherent
in trading the forex market.
James Chen is chief technical strategist at FX Solutions.
ago to the current time for USD/JPY, EUR/
JPY, GBP/JPY, CHF/JPY, AUD/JPY and CAD/
JPY. You can then average these weekly price
change percentages.
The same average price change analysis can
then be performed for the yen from exactly
one day ago and, then, exactly one hour ago.
MAKING A PLAYFor example, suppose that in a given week’s
span, you find the pound to be the strongest
(most positive) single currency in terms of av-
erage percentage price change against the other
currencies. Further suppose the Swiss franc is
the weakest (most negative) currency during
the same week. The bias for that week, there-
fore, would be for a long GBP/CHF position
(long GBP with simultaneous short CHF).
But a strength and weakness assessment on
only the one longer-term (weekly) timeframe
is generally not sufficient. Only with multiple
timeframe agreement would a higher probability
strength or weakness signal result.
So only if there is at least partial agreement
among timeframes that a given currency is the
strongest and another given currency is the
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