Hello my dear Forex traders from Singapore and other great places. Today we will talk about volatility in the Forex market. In this post we will discuss what volatility is, what depends on volatility of the market and most important – how we can use this data to build and improve our own trading strategies and as a result, make higher profits from trading.
What is volatility?
Volatility is a change in the price range from maximum to minimum during a trading day, week or month. The higher the volatility, the higher is the range within the trading time period. Many traders believe that this is the reason of taking high risks when trading the Forex market, but on the other hand you have more chances to make higher profits.
Volatility can be measured for different time periods. If we open a daily chart and measure the distance from high to low, then we will see the volatility of the day.
We can also measure the volatility of the other time frames, for example, on a weekly or monthly charts.
Volatility can be measured within a trading session, during a trading day or hours.
As a rule, an average volatility is calculated according to the number of the last candles. If you take a daily chart, the average volatility is generally considered for the last 10 days. Roughly speaking, the last 10 candles are added and divided by 10.
What determines the volatility?
Volatility of the Forex market depends on the number of transactions in the market, the participants of the trading session, a general state of the economy of a currency, and, of course, it depends on import and export.
Note that volatility can be measured in pips or as a percentage. But in most cases volatility is measured as a percentage in the shares market. In the Forex market it is measured in pips. If you are told that the average change in prices of a pair EUR/USD is 0,7% then you can easily convert it to pips. And the opposite, you can easily calculate volatility pips into percentage.
How to use volatility to make more profits?
Actually it’s pretty simple. As the saying goes, everybody knows about it, but no one uses. This is especially true for intraday trading. No one wants to apply this simple rule.
Suppose you know that the average volatility for the pair GBP/USD is 120 points. So here is a question: if from the beginning of the day the price went up for 100 pips, should you open a buy position? The answer is obvious, you should not do that. Because the chance that the price will continue going up for a certain number of pips is too small. Therefore, it is not necessary to open a buy position in that case. On the contrary, you should start focusing on bearish positions. But for some reason people forget about this simple technique and follow their own system. I believe that it is necessary to include volatility into intraday strategies at least.
Similarly, you can apply the same technique on higher timeframes. Imagine that we know that the average volatility per week for GBP/USD is 200 pips. If on Monday the pair has covered 50 pips, then we can expect that if the price continue moving the same direction, there is a potential of about 150 pips more until the end of the week.
Of course there are days when some movements may be longer or shorter, but we must rely on statistics.
With the help of volatility you can calculate the best levels of stop loss and take profit. If the average volatility of the currency pair GBP/USD is 200 pips a week, it is silly to expect a movement of 1000 pips within a week. Therefore we can successfully use volatility of the Forex market in order to calculate our risks. Of course, the market is not obliged to behave according to your calculations, but it gives some confidence and help when trading the Forex market.
In this post I did my best to help you understand the volatility of the Forex market and how you can apply it in your trading to maximize your profit potential. I hope that this information will help you in developing and improving your trading strategies.