After powering out of its channel two weeks ago, the EURUSD is consolidating between 1.2160 and 1.2320.
We saw a big breakout, and so far, we’ve seen consolidation. This most often implies that price is just resting before continuing in the direction of the breakout, i.e., upwards. However, this isn’t always the case, and given the EURUSD’s impressive run-up, a move lower seems just as likely.
Therefore, trading within the range the EURUSD is offering makes no sense to me. The smarter move is to wait for price to close above 1.2320 (and then look for long opportunities) or close below 1.2160 (and aim for short setups).
A quick look at the 4-hour chart shows how important this range is, and how silly it is to try and second-guess it:
We saw a fake-out move to the long side, catching more than one trend-trader off-guard, but the shared currency wasn’t done causing pain last week, printing a beautiful break to the downside, only to see price bought up and consolidate back inside its box. Painful.
Taking a step back, the bull-run that EURUSD has seen over the last while has been impressive, although not without its pullbacks. When price accelerates away from supporting trendlines, we often term that a parabolic move – and very often these parabolic moves come crashing down.
Do you see from the above chart that a move all the way back to the main trendline wouldn’t negate the overall uptrend the pair has been in?
How do you put this information together? I don’t think charts are particularly good at predicting where price is going to go. I think they’re really good at helping you with your risk management, however (something far more important than predicting price).
Let’s put this into practice, with our long and short trade options.
Let’s assume price closes above 1.2320 on the daily timeframe. How might we trade it? Our key is to aim for the best reward, relative to our risk, as shown above on our idealised 4-hour chart. Let’s assume we get a risk size of 100 pips. The technicals would have given us a good indication that we are “right”. Price broke out and retested our level. We’re buying the high and we put our stops below the recent swing. We’ve used our charts correctly. But do we have a trade? That all depends on our targets.
If I switch to a weekly timeframe, I could expect to see some resistance at 1.2400. Let’s assume I get in at 1.2340. That gives me a 60 pip target, with 100 pips of risk. Not good enough for me. If I want to take the long trade, I need to be willing to hold on for longer, assuring at least a 1:1 reward to risk ratio. So I have to hold on at 1.2400 and hold out for more. What price does at 1.2400 will tell me how likely I am to succeed.
The same process is applied to the short trade, assuming a close below 1.2160 and a stop of 100 pips. I aim for a target where I am likely to find support, and that support will most likely show up when price reaches the trendlines I have drawn in, namely:
A profit target at the first trendline gives me an R of about 0.4. Not good enough. I have to hold on for the second one, giving me a 2R potential.
Do you see how the same chart can be used to provide us with trades in either direction, as long as we’re willing to supply the patience to wait, and the discipline to follow through only if the trade makes sense?