Here’s a question I was asked by a Maven reader this week is:
“When I look for trading signals on forex charts, I often find contradictory indicators in different time frames. One chart seems to tell me there’s an up trend, the next that we’re in a downtrend. I keep finding myself in a dead end, not knowing which way to trade. Should I just look at one time frame and stick to that? How do I know which is the best one for me?”
It’s a common problem – you have a great trading signal falling into place … you’re sure it’s going to be a winner for you … you just make that final check on the 5-minute chart … and the last piece of the jigsaw doesn’t fit.
The temptation for me is to take the approach that I’ve seen my youngest son take to jigsaws – i.e. to keep pummeling and hammering at the offending piece until it fits where I want it go! (I guess he’s just a chip off the old block.)
Of course, this isn’t the approach that a seasoned and rational trader (and anyone over the age of 5 years) should take …
Forex charts: finding the right time frame
“Multiple Time Frame Analysis” is the grand name we traders sometimes give to putting together the jigsaw pieces of our trade.
It involves looking at the instrument we’re studying through two, three, or even more different time frames on charts.
You start with the longest time frame to get the “big picture”, and gradually sharpen up your focus with shorter time frames as you hone in and fine-tune your trade.
Depending on the style of trading you follow, your timescales might be: weekly, daily and 4-hour charts; or, if your perspective is more short-term, they might be: 1-hour and 15-minute charts.
Choosing a time frame is about looking at the scale you’re trading on. The longer timescale will show you the trend that you’re riding, and can highlight major areas of support and resistance; the shorter timescale may show you a trend within that trend (perhaps a swing that you’re picking up profits from); and the shortest timescale can help you to time your entry point.
Remember, a shorter time frame will have a lot of trading “noise” on it – it can be very hard to see the overall trend here. Likewise, longer timeframes can miss out all the subtleties and signals that will get you in and out of your trades.
What if we get our time frame wrong?
You should be able to tell if you’ve got your time frames wrong. If they’re too long, you won’t be able to find the action you’re looking for. If they’re too short, the action will happen so fast that you’ll miss it!
There’s nothing inherently better or worse with any particular time frame. Where traders often go wrong is chopping and changing.
Let’s say that the trading strategy you’re applying requires you to use just a 1-hour and a 10-minute chart, and to follow the signals those charts give you.
Now let’s say that you’ve found a great set-up on the 1-hour chart, and you’ve got a really “good feeling” about this one. But the 10-minute chart isn’t telling you what you want to hear.
Don’t then fall into the trap of looking for the answer you want in the 5-minute chart (this kind of wisdom is like trying to cut your jigsaw pieces to size – it won’t help you complete the picture!)
I know that some traders will tell you that if the market picks up a pace, you need to act faster and therefore shift your focus to a more short-term frame. And there is some truth in this. However, as in all aspects of trading, you must be honest with yourself about your motives.
Trade less, profit more
Using multiple time frames frustrates many novice traders. You think you’ve found a great profit opportunity, but the “trading planets” just won’t come into alignment for you!
Chances are, you’ll find that you’re trading less rather than more.
And for most of us traders, that’s probably a good thing.
How many of us have fallen into the trap of thinking that placing a trade is better than “doing nothing”?
Over-trading is one of the biggest mistakes that traders make. And by using multiple time frames, you’ll be adding another check and balance to your trades. You can gain greater insight and confidence about how the instrument you’re trading is moving, and how to optimize your entry in the direction of the trend.
In the next seven days …
It’s been quite a week for anyone in the forex markets – in particular if you’re trading on the Japanese yen.
Following the news of North Korea’s attack on Yeonpyeong, the yen declined sharply due to it’s proximity and close ties with South Korea. However, the yen’s status as a safe haven took over, and money poured back into the currency (along with the dollar) as the week went on.
The euro, not surprisingly has paid the steepest price, with over three yen taken off its value this week, and hitting a two-month low on Wednesday.
With only 29 days left until Christmas the heat (and the central heating) will be cranked up on the high street. Retail performance will be closely watched over the coming month. Most households are expecting their financial outlook to deteriorate over the coming 12 months, so won’t be digging too deep this Christmas. Although the impending threat of 20% VAT next year is expected to give festive spending a bit of a boost.
The house price index and mortgage approvals out on Monday are unlikely to hold much feel-good factor for shoppers about the value of their homes.
In the Eurozone, the vultures have now finished picking over the bones of Irish debt and will be looking for their next victim. Spanish housing permits don’t usually register on the forex traders’ game plan, but we can expect their release on Monday to raise some concerns.
And after the quiet of Thanksgiving weekend in the US, things pick up again next week with the unemployment rate and non-farm payroll data on Friday.
