Range trading in foreign exchange involves the ubiquitous attempt by forex traders to “buy low and sell high.” While this may appear very basic at first glance, doing so in practice can prove somewhat elusive. The following sections discuss range trading and range breakout tools and strategies.
Range Trading Tools
Range traders make use of patterns on price charts and technical indicators such as moving averages. These allow them to determine optimum levels to buy and sell currencies, as well as which levels seem best to take profits and to limit risk at.
Typically, range traders will identify levels of support, which indicate where supply has been exhausted and prices need to rise to attract sellers. They will also look for resistance levels where prices have risen to the point that has satiated the market and the price needs to drop in order to attract buying interest.
This creates a trading range that occurs between two parallel horizontal lines from which a range trader can take advantage of support and resistance levels. They can also seek to profit from range breakouts.
Trading Within the Range
Often currencies will trade within the two parallel lines of support and resistance for weeks and sometimes months before a breakout occurs. A range trader will take advantage of the situation by maintaining a short position at the top of the range, and by taking a long position towards the bottom of the range.
Furthermore, stop-losses are maintained above and below the support and resistance levels in order to limit risk and ensure that losses are minimized in the event of a breakout.
Trading Range Breakouts
The trading range most often will eventually breakout when market forces ultimately overcome either the resistance levels at the upper end of the trading range or the support levels at the lower end of the range.
Once the rate moves through either of these support or resistance levels, a price target for a subsequent move sets up that is equal to the vertical distance between the lines that are projected from the price level the breakout originated from.
If the breakout occurs to the topside, you add the measured move onto the breakout rate to get the target exchange rate. Some traders take advantage of such opportunities by:
(1) Buying on a dip since the market often retests the range top after the upside breakout.
(2) Placing a sell stop safely back within the trading range.
(3) Placing a take profit order to sell just below the measured move objective rate.
Alternatively, if the breakout occurs to the downside, this sets up a short trade. Traders might then subtract the measured move from the breakout rate to obtain the target exchange rate. Then they might wait to sell into a rally to retest the range bottom, putting their buy stops above the range bottom and looking to take profits by placing a buy order near the breakout target rate.
When managed correctly, range trading and trading range breakouts in the forex market can prove quite profitable strategies for some people. Nevertheless, remember that a certain level of expertise with respect to technical analysis techniques helps determine the optimum levels for trading. In addition, a considered amount of discipline must be exercised in order for the range trading system to work successfully over time.