Thursday, December 20, 2007

Forex Day Trading : Why you should not do it

When I started trading forex, one of the first things I was introduced to was day trading. As you know, day trading is the art of opening up positions that last for less than a day and end up with a profit. The reason I write this article is to talk to you about some of the myths, misconceptions and truths surrounding day trading and finally, why day trading is not a positive way to start for a forex newbie.

First I would like to address some of the myths that revolve around day trading.

Day trading is not profitable because intraday market movements are random and chaotic - This is an absolute myth. It evolved because intraday movements seem random and chaotic, which does not mean they are. The thing is that movements that occur within smaller timeframes seem more volatile (hence chaotic) than movements that occur in larger timeframes which seem to adapt better to fundamental analysis. But, you can always see in smaller timeframes (60 min vs 1 day) what you see in bigger ones, you see trends, retracements, etc.

It is impossible for your wins to overcome your losses in day trading - This is absolutely false, it is very possible to win most of the time in day trading. Obviously this depends on your actual strategy and the way you face the market and control yourself.

Now I will tell you some of the truths behind day trading

Day trading is the strategy that benefits brokers the most - This is true and it is one of the reasons why it is one of the most taught strategies (brokers sponsor most classes, right ?). The main reason is that people that trade intraday open and close many trades, which benefits brokers by the spread. The other reason is that day traders often use a tight stoploss criteria which makes them vulnerable to stoploss hunting by the brokers.

Day trading involves a higher risk of loss - This is actually true as the market tends to oscillate more in smaller time frames. This means that it is easier for the market to reach your stoploss also means that you need to risk more lots or increase your leverage to get the profit you would get in higher time frames.

Day trading is harder - It is actually much harder. It is not very hard to see trends, retracements and price patterns on the daily chart but this seems much more obscure on the lower time frames. The reason why many traders tend to day trade is purely emotional. Trading in larger time frames involves a much larger probability trade but with a possibly larger open draw down risk due to temporary market movements.

As you can see from the arguments I just exposed, it is quiet obvious that although day trading may be a profitable strategy for very experienced traders it is NOT a good starting point for the forex newbie. This does not mean that you ignore smaller time frames remember that all charts show you the same data in a different arrangement. Smaller time frames are still absolutely necessary to find entry and exit points for trades that would involve a larger time frame.

For example, if you see that there is a downtrend in GBP/USD in the daily chart you do not enter based on this chart. You go to the one hour or four hours chart and wait for a retracement there to enter the trade.

In fact, almost every experienced trader will agree with me in that middle term trading is the best way to make money for the forex newbie. It is much easier and the probabilities are higher. The only problem is that newbies have a huge problem with market oscillations as they don't fully understand them. They hate having a wider stoploss and waiting four days or two weeks for a trade to finish.

If you are interested in middle term trading you should practice in a demo account to get used and see what normal market oscillations are.

Please comment if you feel this post missed something (or if you liked it !) !

1 comment:

KenLong said...

This is very accurate, and can be tested and proven by anyone willing to try. The only thing I think you've omited is that with the longer time frame you can profit from the interest carry, which can be a big plus to anyone, especialy a newer trader who may not be as accurate as a pro.

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