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Forex Trading

Price vs. Momentum

Forex Trading: Price vs. Momentum

When you are forex trading, you must always be concerned about price and momentum, as well as how those two key factors are interacting with each other at any given point in time.

Price is obviously defined as the price of a currency pair, but the FX trader's concern about price extends beyond present prices to include considerations of past prices, key price levels, and price variation patterns (range-bound market vs. trending market, for example).

Momentum is a concept that's slightly more delicate to define, but just as important.

Why Momentum Is Important for Forex Trading

One reason why it's so important to watch out for and measure momentum, rather than purely basing your trades upon price levels, is that the forex markets are extremely stop-driven.

By stop-driven we mean that FX market participants all place stop loss orders…and once a currency pair starts to hit the levels of those stops, the markets will run because they have the Big Mo, the stops are going to be wiped out en masse.

Frequently, such emergences of Big Mo (momentum) will prove to be temporary, as FX traders get in on the other side of a moving currency pair and balance out the market. Nevertheless, picking up pips from momentum shifts is a wonderful, profitable forex trade.

Many forex robots like Forex Megadroid and other robots based on scalping (taking small profits), rely quite heavily on finding momentum and exploiting it.

How to Measure Momentum in the Forex Markets

Ironically perhaps, in light of the title of this article which pits price versus momentum, the best illustration of momentum is price as displayed on an FX chart. When you see big green candles or big red candles, you know that this currency pair is experiencing momentum.

But there are other measurements of currency momentum that can prove useful to you as you trade forex. Specific momentum measurement tools include:
-- Moving Average Convergence Divergence (MACD)
-- Stochastics
-- Relative Strength Index (RSI)

And there are many other tools with the same momentum-measuring purpose. What many forex traders do is choose a favorite momentum indicator, and then set that up on the bottom of the forex chart right underneath the candlestick chart, which shows price.

No matter how you measure it, you must consider it, because momentum matters.

Price vs. Momentum: Is There a Trade Here?

Now we arrive at the premise of this article, this idea that you can watch price and watch momentum, and then watch for times when the two huge forex trading factors either converge or, better yet, are in conflict…and then you can swoop in and make a great FX trade.

On the price-momentum convergence angle, you can see this in what happened with the Greece debt default scare in early 2010. In the case of the EUR/USD, price plunged at the same time that momentum to the downside increased tremendously--hop aboard, this thing's going down.

And then there are the times when price and momentum come into conflict; that is, price is telling you one thing, but momentum indicators are telling you something different. This, too, can be seen in what happened in early 2010 with the Greece default scare: after a couple weeks of everybody jumping the Euro to the short side, momentum indicators calmed down, even as prices for EUR/USD stayed depressed.

This represented a trading opportunity. Momentum-focused traders caught a profitable upside moderation in the price of EUR/USD.

Momentum Can Be a Two-Faced Liar

When you're looking for trades by watching price and momentum both at the same time, you must remember that momentum can be a tricky and fickle thing. You must never suppose that because you measure momentum, you have discovered a secret formula.
Momentum indicators, for example, measure past momentum, so even as you're looking at those MACD ratings in real time, all you are seeing is the past, which isn't always prologue to the future. Furthermore, the momentum statistics of some forex brokers can be suspect.

Still, FX traders who skillfully evaluate price, momentum, and how price relates to momentum are operating at a higher level than many other participants in the forex trading markets.

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