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Waterfall Trading in Forex


Trading is part technical analysis, part fundamental analysis. Simply put, it is a sum of the two. While fundamental analysis is extremely important as the moves a central bank makes in establishing the monetary policy are the ones that trigger big swings in the forex market, the day to day technical analysis is the one that helps a trader keep an objective money management system through stop losses and take profits.

Waterfall Effect Meaning

The swings market makes are predictable with various accuracy degrees and this gave birth to a lot of trading theories: Elliott Waves, Gartley, Gann, etc, and they all have the purpose to forecast price action on the right side of the chart.

One of the most famous pattern is the so called waterfall effect markets make. For example, in a complex corrective wave, like a triple zigzag or a triple combination, the second and the third correction can be identified using this waterfall effect. All one has to do is to measure the length of the first correction with a Fibonacci retracement tool, then take 61.8% out of it and project it from the end of the first correction. That should give us the end of the second correction.

Moreover, by taking 38.2% out of the first correction again, and projecting it at the end of the second correction, should give us the end of the third correction and, therefore, the end of the whole complex correction.

The waterfall effect is one of the most complex patterns in the technical analysis and this comes from the fact that it is formed only out of corrective waves. It means that each and every pattern is corrective and not impulsive. This is important as if the waterfall effect is coming in a bearish trend for example, then we should look to buy put options on the retracement levels given by the two corrections that go in the opposite direction.

Scale into Position by Using Fibonacci Retracement

For example, if the first correction to the downside is a zigzag then the x wave, the one that is correcting it, should be a simple one and it is unlikely to retrace more than 61.8% from the total distance price is traveling from the beginning of the zigzag until its very end. But, using the Fibonacci retracement level gives you the opportunity to scale into a position, for example buying SELL contracts / PUT options on a retracement to the 23.6% level, then to a retracement to the 38.2%, and so on, while calibrating the expiration date depending on the time frame that is considered.

In a bearish pattern that respects the waterfall effect BUY contracts / CALL options can be traded as well. These trades should be made only after price is forming the last corrective wave. This last corrective wave is a triangle normally and the striking price for the trade should be given by the moment of time when market is making a new low after the x wave that was just completed. It means wave a is in place and in such triangles that signal a bottom in our case wave a is usually the longest one. This makes a LONG position from that level extremely appealing.

What to Do After the Waterfall Pattern is Completed?

Well, it depends very much where it appeared and what are the implications on the right side of the screen.

For example, if it appeared as the 2nd wave in an impulsive move (which is highly unlikely by the way), then we should embrace for a strong impulsive move as the third wave so BUY contracts / CALL options (with a bigger expiration date) are recommended. That comes from the fact that any bounce from that area is likely to be met with nothing but new buyers as stop losses are going to be triggered by the time market is making a new highs and fresh bulls will want to join the party too.

There is also possible that such a pattern is appearing as being the entire leg of a contracting triangle and in this case it is going to be followed by a corrective wave as well only this time the corrections is going to be in the opposite direction.

Last but not least, in a special type of an impulsive move, when all legs are corrective, the last one, the fifth one, can form a pattern, namely a triple combination that is respecting the waterfall effect.

Waterfall Effect in Forex Trading

All in all, it should be noted that such a pattern appears most likely when market is forming a triple zigzag or a triple combination. In other words, it is not to be found in an impulsive move so when such a complex correction is forming then knowing the levels that it respects is giving us the perfect striking price.

Market Geometry Forex

Market geometry is the old way of doing technical analysis, and it goes way back in time when indicators and other trading tools fashionable these days were not so popular.

The principle of market geometry is based on identifying consolidation areas on the left side of the screen and projecting them on the right side with the sole purpose of finding strong support/resistance levels.

However, market geometry can be used also in finding identical moves in terms of the amplitude price is traveling when compared with a specific line. More on this in the two recordings that are coming with this educational series.

There is a way of saying that future price action is based on past market behavior. Well, if that is true, there is nothing of more value for a trader than market geometry.

Forex market geometry indicator

It is not about Elliott Waves, not about counting waves or looking at indicators, but solely at looking how price reacted in the past and having an educated guess about how it will react in the future.

There is a saying that what’s on the left side of the chart is free information and that information needs to be projected on the right side in order to make a forecast regarding where price is supposed to go. That is totally true and it cannot be more valid than in the case of market geometry field.

If you want, market geometry is the old way traders were looking at prices trying to predict changes to come and technical analysis it is often being said that it is guided more by price action than a specific indicator traders are using.

One more thing to consider when looking at charts from a geometrical point of view is that support and resistance areas are not only horizontal as they can form also dynamic areas. We’ve covered this subject here many times and Binary Options Academy has even a dedicated article on it.

The way to look at markets from a market geometry point of view is to start by identifying isolated spikes price is forming and then to look for a pivotal area. These spikes can be spotted, for example, using the Andrew’s Pitchfork tool.

Market Geometry Tool

Starting from the lows in any time frame and finding two more pivot points will give traders a bullish Pitchfork and this means that the median line of the bullish Pitchfork should attract price. That should act as a pivotal area from a market geometry point of view.

Looking for a spike above the median line offers us the possibility to measure it and then project the outcome on future prices, on the right side of the chart, and when market is reaching that level, we should go and buy call options with expiration date according to the time frame the analysis is made on.

This is just an example, a bullish one, and this is why we refer to call options, but in the case that the analysis starts from the top and the Pitchfork is a bearish one, we should consider put options of course.

Market geometry refers to patterns as well and patterns can be projected on the right side of the chart as well.

If, for example, measuring the time taken for a specific pattern to form and project it on the right side of the chart is the way to trade a counter trend if the previous one was, say bearish. After time expires and levels are reached, options in the opposite direction can be traded.

Another way to use market geometry is to try to trade when market is reaching round numbers. The so called “quarters theory” is saying that any range can be split into for smaller ones and the outcome represents strong support/resistance levels.

For example, let’s take the case of the eurusd currency pair and divide the distance from 1.10 to 1.00 into four different ranges. This makes 1.0250, 1.05 and 1.0750 as the boundaries or edges of those areas while 1.00 and 1.10 the extremes.

Find Support and Resistance

It is only normal that price will react at those levels and act like support/resistance. For example, assume market is falling from 1.05 and targets the 1.0250. The last one should act as support and by the time support is broken, it should act as a resistance.

The way to trade this is to look for a bounce by the time 1.0250 comes, so BUY contracts, and then on a retrace to 1.03-1.0350 to trade SELL Contracts on expectations that the round number/level will be eventually broken.

Martingale & Anti-Martingale Forex Strategy

In order to succeed in Forex and CFDs trading, one must find a sound approach and develop the right strategy both for the trading and management of investments. There are many strategies developed with the goal of increasing chances for more plentiful income provided by forex trading, and when properly used they can definitely make a difference. In this article, you can find

  • Martingale and anti-martingale Strategy
  • Precise Enter Strategy
  • Tunneling Strategy

We have also included a short section on volatility tools so traders understand the importance of volatility in prices on the execution of their preferred strategy.

BrokerMartingale strategy happens every time traders double the bet if the previous one has been lost, hoping they’ll win next time. It is assumed that this double rate would cover previous losses, and traders get a legitimate profit. Everything would be great if people did not miss one important point: it is necessary not just to double every last bid, but the sum of all previous bets lost.

Example of Martingale and Anti-Martingale Strategy

Let us consider an example: let’s say a trader purchased a CFD for $25 (usually a minimum purchase option) and the forecast was wrong. So, they buy a new option for $50 and their prediction is incorrect. The next purchase should be $150, and if it does not bring profits, then they need to invest $450. Does average trader have enough money, and, most importantly, patience and courage to continue in order to win?

Of course, if traders buy stock options based on an analysis of the market, then applying this strategy to hedge the risk is quite possible. However, it is advised that beginners should use this strategy only if they have steel nerves and a tight budget.

There is also a strategy called anti-Martingale. Proponents of this trading strategy, on the contrary, increase the investment only after the option profits, and if the option was unprofitable – the stake is reduced. Be cautious with this strategy as well. For example, if the trader has had a number of failed transactions and their balance has decreased by 20%, in order to make a profit they need to increase the investment by 25%.

Remember that the key to success is a sensible approach: go with a plan, and decide the maximum amount willing to invest. And remember that only reason and rational approach win in trading.

Precise Enter using Anti-Martingale

In order to trade CFDs and Forex more effectively, traders often use a strategy called Precise enter. Such a strategy would suggest the most appropriate time to enter the market, and help to determine the correct direction. Precise entry strategy leaves the possibility of experimentation.

A selection of different criteria can significantly improve the strategy. For example, for greater accuracy, trader can add it to use Fibonacci levels. With the use of this technical analysis part, it will be possible to detect the last oscillation. This will provide an opportunity to avoid even a small rollback, and increase the accuracy of determining when to enter the market.

Such a strategy is implemented with a number of instruments and has a number of requirements.

5 important tips when trading with anti-martingale

  1. Trade should be implemented only on the daily chart.
  2. Trade can be made using any currency pair.
  3. Simple Moving Average with a periodicity of 150.
  4. Stochastic Oscillator or stochastic (6,3,3), horizontal lines 70 and 30.
  5. RSI or Relative Strength Index with the frequency of 3 with horizontal lines 80 and 20.

Traders must use the following guidelines in order to determine the correct time of entry. When the trend is growing and the price is above the 150 SMA, they must expect a level crossing indicator RSI 20 in a downward direction, and the confirmation signal, the third in a row. This signal is the intersection of Stochastics. A signal will be given when the two intersecting stochastic lines will be below 30. Only after the implementation of all of the above one can purchase BUY contract. When a trend starts to descend, and the price will be below the simple moving average (SMA), traders need to wait until 80 level crossing occurs. The indicator RSI (Relative Strength Index) crosses this level from the bottom up. It must be established when both stochastic lines cross above the level of 70. If all parameters are filled, it’s time to buy short-term SELL contract.

Tunneling Trading Strategy in Forex

The tunneling strategy is simple to use and highly effective. This type of strategy is based on a moving averages intersection. It may be used on all types of trading, on all currency pairs. The signal for purchase and sell implementation is calculated by schedule with not less than one-hour time interval.

In order to see a buy or sell signals, this strategy used a number of different instruments. EMA or exponential moving average is one of these tools. The frequency of EMA is 18 and the color of the line shown on the chart is red. The next tool is weighted moving average, also known as WMA, with a periodicity of 12. This moving average is colored in yellow. Third and the final tool is the RSI indicator with a periodicity of 21.

Two moving averages with frequencies 18 and 28 form a tunnel, consisting of two red lines. They help to define the beginning and end of the trend. Weighted averages at intervals of 5 and 12 show the time in which traders need to start trading. Also, one can determine the currently active trend using these lines.

Traders need to consider a few rules in order to make a deal. Purchase or sale of the CFDs can only be made at a time when the tunnel formed by the red lines will be crossed or shrink so that the lines almost merge into one.

The acquisition of  a BUY contract is possible when weighted averages (WMA), with the periodicity of five and twelve, cross the tunnel formed by EMA moving averages. The signal for the purchase will come at a time when the weighted moving average with the frequency of 5 crosses sliding WMA, which frequency is twelve.

A good moment for purchase SELL contract will come when the weighted moving averages with intervals of five and twelve cross the channel formed by EMA moving averages. Also, a sell signal will appear at the time of moving WMA with a periodicity of five crosses the line with a periodicity of twelve from top to bottom.

Also, pay attention to RSI indicator, which frequency is twenty-one. A trader can Short a contract at the moment when the indicator is below fifty, and should buy when the RSI is above that mark.

Volatility Tools

Volatility is a measure of swings in a price action and the rate of change of these swings. A high volatile market has major swings and is considered more unstable. A market with very low volatility is more stable and is less changing. It is easier to make bigger profits with relatively less money in a high volatile market as the ROI can be much greater; however, the risk of misjudging the market tremendously is equally higher.

The traders ignoring the volatility conditions of the underlying market are bound to get hurt and it is a recipe for misapplying forex trading strategies. Similarly, ignoring high volatility conditions leads to applying inappropriate trading strategies.

The typical strategies in high volatile markets are out-of-the-money (OTM) and deep-out-of-the-money (DOTM) trades. They simply have a higher chance of success since price savings are greater and more common, but be beware that extremely high volatility conditions are often seen as a signal of reversal.

Nature hereof is that extreme volatility reflects transient conditions and the underlying market will return to average ranges of volatility. This event or norm is known as a regression to the mean. The contrary is likely to take place when there are low volatility conditions which reflect a clustered market that is likely a prelude to a breakout.

Buy Strength and Sell Weakness

There is no powerful move than the one that is taking the previous highs in a bullish trend or the one that is taking the previous lows in a bearish trend. A bullish or a bearish trend means a market that is rising or a market that is falling, and therefore buying strength in the case of trading CFDs and forex means buying BUY contracts, while buying weakness means buying SELL contracts also called shorting or to short.

In trading in general, buying at the highs or selling at the lows presents the risk of market reversing and this is why a lot of traders are actually avoiding such a situation in order not to be trapped on the wrong side of the market.

However, it should be interpreted differently: if the market had the strength to recover and go for the previous highs it means that somebody bought it, it was in a demand area, and we might just want to join the party by trading in the same direction. The same is valid with selling the lows and only that in this situation we are buying SELL contracts. This is valid very much in the case of continuation patterns like pennants, triangles, etc.

Selling into Strength Buying into Weakness

This buying strength/selling weakness approach is not for the weak ones because most of the times, if not all the times, it implies buying in overbought areas (where everyone is selling, remember?) and selling in oversold areas. Basically, with this approach you are thinking differently than the vast majority of traders.

However, this approach has a great advantage: it allows a trader to stay with the trend, so basically it is not that risky. If the market went all the way into overbought territory, then chances that it is going to continue that trend rather than reverse are much bigger. Trading the Forex market with this approach means that pending orders can be placed, so when one wants to buy from higher levels, pending buy stop orders should be placed. The same is valid when one wants to sell from lower levels, the orders to be placed are called sell stop orders.

In the first instance in the example above, it is said that you buy strength, as you buy from higher levels, while in the second one it is said that you sell weakness, as you’re selling from lower levels.

What is Buying on Weakness

If all the above were not enough to understand the complexity of this approach, there is one more thing difficult to overcome: divergences. Almost always market will diverge at that area and it really doesn’t matter what kind of oscillator you are plotting on the screen as at that moment of time they will all diverge.

We all know that divergences are a sign to trade in the other direction as markets are forming a move contrary to the one that the oscillator is forming. This is very true. However, in reality, market can stay in a divergence more than a trader can stay solvent and even if the market is retracing a bit, it would be only an opportunity for new buyers in a bullish trend or sellers in a bearish trend to step up and buy/sell the new opportunity.

Human nature plays a trick on all of us when it comes to trading as exactly when you’re not expecting a move to come, or when you’re convinced it is not possible for price to make a specific move, market will prove that not only it is possible, but it is most likely. Therefore, contrarian trading is a very popular technique and sometimes it is proven to be even more useful than classical approaches. After all, traders are struggling to find the right striking price and maybe this struggle should be minimized by looking the other way.

Wave 1 Extension Forex

An impulsive move is characterized by having at least one wave that is bigger than 161.8% extension when compared with the next longest wave. Any five wave structure has at least one wave that is extended and between the advancing waves, the candidates for extension are, in this order: the 3rd, the 1st and the 5th.

While trading with a third wave extension has already being discussed here, how about trading forex when the impulsive move is a first wave extension (when the first wave is longest one)?

What is an Extended Wave?

A first wave extended impulsive move should come in two different places: either at the beginning of a strong and powerful impulsive move and the whole five waves structure with the 1st wave extension to be nothing but the first wave of a bigger degree; either at the end of a powerful impulsive move and the whole five waves structure with the 1st wave extension to be nothing but the fifth wave of a bigger degree.

The difference between the two stays with the overlapping between the corrective waves of a lower degree.

1st Wave Extension in Forex Trading

Like the name of this article suggests, a first wave extension means that in a five wave structure, the first one is the longest one. When it happens that the first wave is the longest one, then it is said that market is forming a first wave extension impulsive move.

There are two types of impulsive moves with a first wave extension and the key to differentiate them stays with the overlapping that may or may not be present.

If the overlapping is present, then the 1st wave extension impulsive move is formed only out of corrective waves and this means that out of the 1-2-3-4-5 wave structure, all of them are corrective. This kind of pattern is also being known under the name of a wedge or a triangle that appears at the end of a move of a bigger degree.

If that is the case, the key to trade is to look if the wedge is rising or falling – a rising wedge is falling and we should look for buying put options and a falling wedge is rising and we should look for to go LONG with BUY orders or CALL options, depending what you use to trade forex.

In the same situation, the next thing to do is to draw the 1-3 and 2-4 trend lines and this gives the boundaries or the edges of a wedge. By far, the most important trend line between the two is the 2-4 trend line as that is giving us the perfect entry price. If the 2-4 trend line is broken, it is most of the times retested and that is when we should step in and place BUY orders /buy CALL options after a falling wedge and vice versa after a rising one.

Such a pattern appears at the end of a wave of a bigger degree, and most of the times it is a fifth wave in a five wave impulsive move or a c wave in an a-b-c structure that is either a flat or a zigzag.

The Implications of Overlapping

Coming back to overlapping, if it is not present, then there is not possible to treat a wedge the way we discussed above as it means most likely the 1st wave extension is only wave one in an impulsive move of a bigger degree.

In this situation, the thing to do is to take a Fibonacci retracement tool and measure the length of the whole first wave and look for the 23.6% and 38.2% retracement.

In such a pattern the structure of the waves is important as well as, for example, the second wave is the most time consuming one while the 4th wave is simpler in structure and complexity than the 2nd wave. All these are giving clues about the striking price and the expiration date as well.

Looking for the Bigger Wave

In an impulsive move, at least one wave needs to be much bigger when it compares with the other two waves that are traveling in the same direction and this means that it is standing out of the crowd. There are multiple types of extensions and 1st waves extensions are not the most common ones.

How to Trade Consolidation Forex

Before even moving into discussing consolidation area, there’s the need for defining what a consolidation area is. Such an area is defined to be any area that has more than two support/resistance levels in the same place or almost in the same place.

In our case, we’re going to use the Ichimoku Kinko Hyo to identify consolidation area and one way to trade forex is to look for the cloud, the Kinjun and Tenkan to come into the same place and this would be really difficult for market to overcome.

The second example we’re going to cover here is based on moving averages and trading with multiple moving averages can give you an idea about where a consolidation area can be found.

Consolidation in Forex Meaning

But above all, there is one particular factor that is almost always overlook by market participants: the time frame element. The whole purpose of identifying a consolidation area is to look for it to act as a support/resistance for price. As a rule of thumb, the bigger the time frame, the stronger the support and resistance is. The opposite is true as well, as the lower the time frame, the more easier for the area to be invalidated.

Consolidation areas, or ranges, are extremely valuable to any trader and it depends very much on the time frames the ranges are forming. This is important as if the time frame is a short one, like one minute or the five minutes charts, then the expiration dates for the traded options should be smaller as well. On the other hand, if the consolidation area is to be found on the bigger time frames, like the daily, four hours chart or even weekly, we need to adjust the expiration date accordingly.

Consolidation areas can be found by trading with moving averages and the way to go is to plot on the chart different moving averages, exponential ones or simple ones, with values from 20, 50, 100 and 200. This means that these averages will take into consideration different periods back in time to plot the values and a confluence area appears when the averages are crossing and are to be found in the same place. That area is difficult to be broken by price and therefore, in a bearish trend, when price is reaching that area, put options should be traded, while in a bullish trend any dip into such an area is considered to be a place to buy call options.

Ranges are wonderful to be traded with oscillators as we all know that oscillators are showing overbought and oversold levels. If the range is a triangle that is forming on the bigger time frames, then going on the lower time frames and trading call options on any move of the oscillator in the oversold territory and put options on any move in overbought territory is key.

Consolidations with Elliott Waves Theory

If one is using the Elliott Waves Theory to analyze markets before taking a trading decision then looking for second and fourth waves is key. However, there’s a catch in the sense that consolidation areas are to be found mostly on complex correction and not in simple ones. That being said, principle of alternation is coming in handy in the sense that if the second wave for example is a simple correction, then chances are that the fourth wave is going to be a complex one, so ranges can be traded on the fourth wave that is about to come.

Still with the Elliott Waves Theory, when complex corrections are forming on the bigger time frames, look for X waves to intervene and this means put options in overbought territory as well as call options in oversold.

Whenever a range is identified, you can trade and this opens the gates not only for classical high/low trading, but also for boundary and one touch. The idea is for the one touch option for example to buy a one touch in the oversold or overbought territory shown by an oscillator. If that oscillator is the RSI (Relative Strength Index), then buying the options on any move price is making towards the 70 or 30 level should do the trick.