Whether you’re new to trading or more experienced, it’s likely you’ll have lots of questions along the way - from what your maximum drawdown figure should be to deciding on a good risk-reward ratio.
Here are some of the most common trading questions answered - part two will look at currency correlation, trading plans, divergences and trading capital.
You can read Part One here.
What is currency correlation?
Currency correlation is how two currencies move in relation to one another - for example, when one currency pair falls, another does the same thing.
There are two types of currency correlation:
- Perfect positive correlation: this suggests that the two currency pairs will move in the same direction 100% of the time.
- Perfect negative correlation: this suggests that the two currency pairs will move in the opposite direction 100% of the time.
Make sure that when you’re trading multiple currency pairs you’re aware of your risk of exposure! You might believe that you’re minimising your risk by trading in different pairs, but many pairs tend to move in the same direction - which means you’re actually increasing your risk.
For example, buying 1 lot of EUR/USD and buying 1 lot of GBP/USD means you’re basically buying 2 lots of EUR/USD - because EUR/USD and GBP/USD move in the same directions. So you’re doubling your position and doubling your risk of loss - so be careful!
What should I include in my trading plan?
Getting your trading plan right is one of the most important aspects of trading: it will keep you inspired and keep you disciplined.
It will change as you progress with your trading and find better strategies or different hours that work for you, but it’s important to start with the right framework.
There are a few key ingredients you’ll need for an effective plan:
- Hours to commit
- Stop loss
What are divergences?
Trading divergences is the idea that there is an imbalance between price and oscillator, with the assumption that this imbalance will signal a change in price - either a trend continuation or a trend reversal.
Put simply, a divergence is the opposite of a confirmation signal, which is when the indicator and price are moving in the same direction.
Make sure that when you’re trading with divergences, you use them as an indicator, not a signal to enter a trade. Make sure you wait for the correct signals that a divergence has formed before acting (these are prices formed at either: higher high than the previous high; lower low than the previous low; double top or double bottom - if you can’t spot any of these on your chart, it isn’t a divergence!)
How much trading capital do you need for trading?
This greatly differs from trader to trader as it depends on your own financial situation, and how much you can afford to risk.
Something important to remember is that losses are an inherent part of trading, so make sure you never risk more capital than you can handle.
How much you’ll need to pay varies from broker to broker - but there is also another option: with BluFX, the capital you’ll need to risk is limited to your monthly subscription fee. Interested? See 5 Reasons to Join BluFX here.