Because the EUR is so heavily weighted, the dollar could be weakening
against all the other currencies, yet if it is strengthening vs. the
EUR, the dollar index could still be going up! This may lead a new
trader to doubt what could be a great short trade on the USDCHF. A
short trade on the USD/CHF means the dollar is getting weaker while
the CHF is getting stronger.
If you choose to use the dollar
index as one of your indicators, you need to know and use of this
weighting. It can definitely help when trading the EUR/USD pair as the
two charts should have an inverse correlation, but when trading the
USD/CHF, If you look at the dollar index at all. Here is a chart
showing this correlation on weekly charts from last summer:
Look at the dollar index chart is trending lower, the EUR/USD
is trending higher, and when the dollar index is trending higher, the
EUR/USD is trending lower. Using this correlation on the time frames,
your trade can help as an odds enhancer. Notice the difference of the
dollar index vs. the USD/CHF. While there is some correlation, it is
not nearly as obvious as the EUR/USD pair. Traders need to learn how
to watch this for their trading decisions.
What happens if you want to trade the GBP, but want to look
at the Pound Index? Do this you have to make your own index by looking
at several charts. In the following set of charts, we have the GBP/USD,
GBP/CAD and the EUR/GBP. In these charts, the trend lines are drawn
merely for direction, not as an example of how to draw tradable trend
lines! In the first two pairs, the GBP is on the left side of the
pair, which is showing GBP weakness on the chart. The third chart has
the GBP on the right side, which is showing the GBP getting weaker vs.
the EUR. In our imaginary GBP index, what direction would it be going?
If you answered down, you would be correct!
This will help you make better trades by making up your own index, you
should be looking for trades in the directions strength or weakness of
the individual currency that your index tells you. By watching the
charts if a currency is getting weaker vs. two or three major
currencies, it is probably getting weaker vs. all of them. Looking for
trades in the general direction of this chart index will help you be
right more often an profitable trader. Make sure you are looking at
the same time frame you trade. If you are a short term intra day
trader, comparing monthly charts will not work, traders need it use
the same time frames, watch a 4 hour, 1 hour, and 15 minute chart, you
would use this technique on the 4 hour or 1 hour charts to see if it
helps your win loss ratio.
It's important to understand that when an uptrend in a
smaller time frame, in this case a daily, approaches a weekly supply
zone, going long becomes a high risk, low probability trade. Instead,
these areas should be deemed as "profit taking" zones on long
positions, and low risk counter-trend opportunities for initiating
short positions. Put another way: The trend is no longer your friend
at these junctures. So its time to sell your trade.
The last aspect of trends that is widely misinterpreted is
the manner in which these moves culminate. When in a downtrends this
usually ends in a massive flurry of panic selling in which everyone
owning the market finally has to sell. And when all that selling is
done, there is only one direction for the market to take up. In the
same way, when the market has been moving up steadily and people are
chasing returns, everyone who wants to own the market already does.
Thus, when demand diminishes and supply increases, the market has only
one direction to go down.
All forex markets go through a rotation that is common
throughout the world. All modern capitalistic economies work in
similar manners and you can try this analysis with great success to
the US, Singapore, European, UK, and Indian equity markets. We are all
people, driven by the same forces of fear and greed when playing in
the markets. These emotions make our investing and trading very
When there is danger on the horizon for the economy and
markets, money will start to flow into sectors viewed as "safe
havens." Consumer Staples (FMCG), Healthcare and Services and
Utilities are examples of those sectors. The staples and healthcare
are things we as a society still spend money on even if the economy
starts to slump. Brokers advise their clients to protect their capital
and you will see those sectors hold steady or even start to rise when
danger appears or economic slowdown is imminent. Their buying and
selling actions in the markets they operate in are no different than
the actions of the consistently profitable trader. The difference is
that the trader can do all this from the comforts of their own home.