Why is price action the best way to trade the Forex?
If you are new to the Forex markets you may have already been enticed into using fancy indicators, filling your charts full of colourful lines and curves. Price action trading is completely different, it strips back our charts to the bare basics. Price action charts look clean, easy to read and enable consistent technical analysis of the Forex markets.
So what is price action?
Price action enables traders to see all the information presented in a simple and easy to read format using candle sticks. These candle sticks can inform us about the opening price, the closing price, the high and the low of a ‘candle’, for each specified time interval.
Therefore, price action is a very simple yet extremely powerful technical tool.
The candle sticks have two main structural qualities:
1. The body of the candle – this is the coloured rectangular part of the candle stick.
2. The wicks of the candle – these are the thin pointy parts found at the top and bottom. These are very important as they show us where price has been rejected from. Longer wicks indicates bigger rejection.
Wicks act to help us mark our key horizontal support and resistance levels.
Below is an example of a bullish candle, where price has risen above the opening price. I use white to indicate a bullish candle but you can choose any colour you like.
Next is an example of a bearish candle, where price has fallen from its original opening price. I use the colour black to indicate a bearish candle.
The size of the candle stick can also provide us with valuable information. The simple rule here is the larger the candle the more momentum it possess and so in turn smaller candles indicate weak momentum.
Price action is like learning a new language but once studied it really does give us all the information we need to get a grip on where price has been and where price has been rejected. Thus, support and resistance levels can be marked using the price action on the charts.
Once you begin to follow price action, you learn to spot certain patterns forming. These patterns have a habit of repeating themselves.
Why do these patterns repeat themselves?
Simple, the market is run by humans and as humans we love to repeat ourselves when presented with similar circumstances. It’s just a basic instinct that we all possess.
Understanding this concept means we can use human habits to find trades that have a high chance of coming off.
This has to be taken with a pinch of salt though – although price can repeat itself we should be under no illusion that it’s fool proof.
For example, say two trades that looked exactly the same formed one after the other on two different Forex pairs. Can we expect both of them to have the same outcome – No!
The reality is that the Forex is its own master and can do what it likes when it likes and this is something we must understand. Yes we can use the price action to trade the Forex but the key is to learn how to take high probability price action setups consistently, to gain our edge over the market.
How to Read Price Action
Price action is the art of learning how to read and interpret the candles printed on our charts. Once you begin to understand the reason why certain candles are produced the story of price action begins to unfold.
We want to be on the side of the current strong momentum and so using the size of the candles and trading in line with the larger candles is very important.
Impulsive and Corrective candles
Impulsive candles are very easy to spot, they simply show up as large candles usually with large bodies. So the high and low of the range is large and they really do pop out on the charts due to their size. They indicate strong momentum.
Corrective candles are the opposite, they show up on the charts as small weak candles, they tend to form after a large impulsive candle and indicate a time where the market is taking a breather before moving on.
As the markets are unable to continuously move in one direction, we have to expect price to reverse a little after a big move. The reason this happens is because when the market does make a strong move in one direction, traders who got in on that move have to take profit at some point and this is when we get price reversing or move sideways on us.
So we have defined that the size of the candle is very important and that we want to trade with the current strong momentum.
Candlestick wicks, are the thin pointy parts found at the top and bottom of the candles and they too can tell us a lot about what is going on. The wicks indicate where price has been rejected and the larger the wicks the stronger the rejection.
The wicks are our best friends because we can use them to help us mark our support and resistance levels (key levels). It’s not rocket science but like anything it takes practice to convert the candles structure into information we can use.
The time frame on which we look at the price action is worth mentioning. The reason being the larger the time frame the more accurate and valid the price action is.
Why?, well if you compare the 1hr chart to the daily chart we have to realise that a candle that has taken a whole 24hrs to form is going to be way more important than a single 1hr candle.
Therefore, we must remember to make sure if we do venture onto the lower time frames to trade, the price action candle we take has to be larger than all of the other candles around it. All too often we will see pin bars or engulfing bars being printed on the 1hr charts but these are what suck in the newbie traders and cause accounts to be drained.
The best way to think about this is to ask yourself – “Does this candle stick out from the rest of the candles and scream out –TRADE ME!!!!”
This simple question will help keep you from taking those sucker trades, we just don’t need to take.
Putting it all together
Therefore, the candles that get printed help us to read the price action, it’s like a jigsaw puzzle we just have to use all of this information and put it together to get a good picture of what is going on in the markets.
All the information we need is printed on the charts to help us understand what price has done previously, where price has been rejected and what the current momentum is.
No indicator or robot has the ability to do this, and this is why price action is a very competent way to assess the charts and trade consistently.
Module 1: The Basics
- Unit 1: What is the Forex?
- Unit 2: Forex terminology
- Unit 3: Fundamentals v technical analysis
- Unit 4: What is price action?
Module 2: Market Analysis
- Unit 1: How to analyse the markets
- Unit 2: What types of trades can we use?
- Unit 3: Marking support and resistance levels
- Unit 4: Time frames/best times to trade
Module 3: Price Action Setups
- Unit 1: Price action setups introduction
- Unit 2: Pin bar
- Unit 3: Engulfing bar
- Unit 4: Inside bar
- Unit 5: Sandwich combo setup
Module 4: Chart Setup
Module 5: Trade Management
- Unit 1: Trade plan
Module 6Trade Psychology
- Unit 1: Psychology introduction
Module 7: Continue your learning
- Unit 1: What next?