These days, it seems like something is happening to someone’s currency every other week. For example. the American Dollar is booming because the Japanese Yen got bailed out.

The British Pound is crashing, resulting in the Australian Dollar being stronger. Russia declared war on its umpteenth neighbour, leading to yet another tumble for the Ruble. It goes on and on.

After a while, you might start to wonder: How does one capitalise off of this instability? Anyone who has spent any time in any securities market will know that instability potentially means a big payday. 

The type of market you are looking for is the foreign currency market, also known as “Forex”.

Table of Contents:

• What is Forex
• How Does Forex Work
• Who Buys and Sells Forex
• Forex Derivatives
• The 10 Forex Day Trading Strategies You Need to Know

What is Forex? 🤔️

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Forex is one of the most popular and most volatile securities that you can get into. It is open 24 hours a day (in a manner of speaking), features a ton of different derivatives, and allows you to capitalise on swings in the economy from either the up or the downside.

But for many people, all of that is a lot of jargon. If you’re at the level where you are just learning that forex is short for foreign currency, then you might not know how risky and complex the forex trade can really be. You might not understand how to hedge your bets. And worst of all, you might not know how to do anything besides exactly what most forex traders do: lose money and then give up.

My ultimate goal is to help you with two things: First, I am going to teach you everything you need to know to understand what is going on in a forex trade. This will include learning the vocabulary, obviously, as well as the various financial instruments and ways of using forex.

But second, and more importantly, is that I will teach you the strategies of how forex trading works. If you go in just trying to “buy low and sell high”, you will find that there is no compelling reason to buy any price assuming it’s low, nor is there any guarantee it will go up to a new high.

Today, we are going to go over the basics of forex. That includes how it is traded, what its derivatives are, as well as what kind of strategies you can employ to maximise your profits. So, let’s start out simple by going over the basic functionality of forex.

How Does Forex Work?

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To begin with, let’s dispel one misconception right off the bat: You do not trade foreign currency by repeatedly exchanging one currency for another at a bank or embassy. Technically speaking, you could do that and make some kind of profit, but that’s not what forex is all about.

If you just traded in cold hard cash to an embassy, you would be hampered by the limited physical operational hours and transaction speed of the embassy. The forex market is open for as long as there are people willing to make the trade that you are offering. That is one of the main differences between forex and stocks.

When you trade forex, you trade it in currency pairs. You can trade one currency at a time, but that’s not standard. What you will usually see is things like “AUD/GBP”. That is the name of the product, the pair you are working with. The first currency in that pair (the Australian Dollar) is the “base currency”. The second currency (the British Pound Sterling) is the “quote currency”. 

You are buying the base currency and selling the quote currency. This can be confusing for many people who are just getting started in the forex trade. They ask, “So, by buying AUD/GBP, I’m purchasing the sale of GBP?” Yes. It seems unintuitive, but it is best to read every foreign currency pair backwards.

The quote currency is the currency you are spending to buy the base currency. Even if you are spending American Dollars to buy an AUD/GBP pair, you are actually buying GBP, and then selling it for its value in AUD. You might be starting to see why this market is so complex when a basic purchase is so unintuitive.

Let’s Look at an Example

The theory of forex is always harder to understand than the practice of it. For that reason, we are going to look at an example of how this works in practice using a real foreign currency pair’s real values.

On Monday September 5^th 2022, USD/JPY was valued at about 140. What does that mean? It means that for every USD (United States Dollars) you owned, you could buy 140 JPY (Japanese Yen).

Which in turn means that if you bought a USD/JPY pair at that time, it would have been valued at 140. 140 of what? 140 Yen? 140 Dollars? Neither. In the forex trade, it is called “140 pips”. 

Basically, a pip is a percentage of the opposing currency in the trade. This is how the relative value of a currency is established. Strictly speaking, each pip is 1% of both currencies. USD/JPY is worth 140 pips, meaning that one USD is 40% more valuable than one JPY. JPY/USD is worth about .007 pips at the same time. This unit of measurement allows a currency pair to be valued relative to each other.

When you buy USD/JPY, you are buying into a currency pair on the side of the USD. If the value of the USD increases relative to the JPY, that 140 number will increase to something like 144, as it did on Wednesday September 7^th 2022. If you sold on that Wednesday you would make a profit.

That is a 2% gain. That might not seem like a lot but remember that 2% of $100 is $2. Of $1,000, it is $20. Invest $10,000 and you suddenly make $200 in a day and a half without actually working.

Who Buys and Sells Forex? 💰️

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Now you have an idea of how a single, basic forex sale might go. But you don’t know who is involved, where it takes place, when, or even why. That information is as important as understanding pips. To begin with, let’s ask a question: “Who is doing the buying and selling in a forex trade?”

The easiest way to get a grasp on that is by comparing it to the stock market. In any given stock market, companies and individuals sell stocks. Most of the time, if you buy a stock from a company like Coca-Cola, you are buying that stock from the company itself. Sometimes you will buy from an individual, but most times it’s from the company. And when you sell, it is also that same company that buys it.

So, who buys and sells forex? Let’s apply the same logic of the stock market here: The company that creates the asset. And who creates a fiat currency? A country’s central bank.

But there is one major difference between the stock market and the forex market. While a company is the one who sells you its own stock (and buys it back) most of the time, you are only able to buy directly from a country’s central bank during the times of day when that central bank is open.

What About the Other Times of Day?

However, the forex market is still open 24 hours a day. Who are you buying from and selling to during all the time when a country’s central bank is closed? Oftentimes, it’s other individuals and hedge funds.

Where a stock is bought and sold by the company who produces it most of the time, a foreign currency is bought and sold by the country that produces it only about half of the time. Fortunately, the volume of trades of foreign currency is so massive that it allows trades to reliably execute 24 hours a day.

There are Still “Market Hours” Though

Just because you can make trades at any time, however, that does not mean there are not optimal hours to make trades. Buying and selling a currency pair when at least one of those currency’s central banks is open will make trades far faster, more reliable, and usually more profitable. 

This is simply because a currency’s central bank will sometimes take a trade that would normally appear bad to an individual, just so the country can maintain a degree of control over its currency.

Surprisingly, the same is true of hedge funds, both within a given currency’s home country and outside of it. The reason for this is that there is a lot more a central bank or hedge fund can do with a currency than just buy it or sell it like a normal investor would, meaning that just owning it is more valuable for them than necessarily getting it at a profit. This is the “why” certain purchases can be made.

But that just leads to another question: what are the derivative assets of a foreign currency pair?

Forex Derivatives

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To begin with, let’s define derivatives just in case you’re not clear on the meaning of the word.

A derivative is a security that is dependent on another security. For example, stock options are dependent on an underlying stock. Futures for commodities are dependent on an underlying commodity. And similarly, there are securities dependent on an underlying forex pair.

The three most important are forex options, CFDs, and futures. Understanding each is important to developing a nuanced forex strategy. I will give a brief overview of each of them, and dive in deeper into how to use them later.

Forex Options

Similar to stock options, forex options are a contract that allows you to buy the option to buy or sell the forex pair. These contracts are organised into “calls”, which are contracts for the option to buy, and “puts”, which are contracts for the option to sell. These are disproportionately valuable during market volatility, when the possibility of an underpriced or overpriced contract resolving for value is more likely.

Forex CFDs

A CFD means a “contract for differences”, and it is basically a way to speculate on the change in price of a foreign currency pair without actually having to own it. This is good if you don’t want to risk actually owning the underlying currency. CFDs are generally pretty risky, but some of that risk is offset by the fact that because they don’t deal in any asset besides the contract, they can be programmed better.

Forex Futures

Where a forex call option is the option to buy a forex pair at a certain price at a certain time, a forex future is the obligation to buy a forex pair at a certain price at a certain time. Obviously, you have to be pretty confident that a forex pair will be at or around that certain price to make such a bet.

There are two ways to make use of these derivatives in your trading strategies with forex. The first is the most obvious one, which is actually buying and selling these derivatives. Generally speaking, all of these are more risky than basic forex, which is saying something given how risky forex already is.

The second way of using these is supplemental to a standard forex trading strategy. That means that rather than actually trading these securities, you use them to get an idea of where the price of the currency pair is going to go. After all, if tons of people are betting big on one price of futures, then there is probably someone with more resources than you telling them that it’s a good investment.

The 10 Forex Day Trading Strategies You Need to Know ➡️

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With all that information out of the way, we can finally start talking about the strategies themselves. I will start with an assortment of strategies that focus entirely on basic forex trading. Then, I will go over some of the strategies that make use of the more complex financial instruments.

Basic Forex Day Trading Strategies 🔎️

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1. Scalping

One of the safest and easiest day trading strategies for any security is a process known as “scalping”. When you scalp while day trading, you basically try to hold a position for as little time as possible while still making a profit. This takes advantage of the fact that you can get into and out of positions many times over the course of a day, and therefore rewards time investment.

A good example of a scalp is a situation where you buy something like AUD/BPS at 1.5 pips, and then sell it at 1.7 pips. Whether you bought one pair or one thousand pairs, that tiny profit is still a profit. 

Spend all day doing that and you can reasonably expect to make a good amount of money, so long as you trade along with market sentiment. The question then becomes, “How hard is it to trade along with market sentiment?” Well, I bring up market sentiment because it is particularly easy to follow.

If you track the forex market through any social media, people will outright tell you the market sentiment. There will be people talking about how certain they are that a currency pair will increase in value while another decreases in value. Do not take these as gospel, obviously.

Even someone who is a literal certified expert in foreign currency is going to be wrong eventually. However, if enough people believe that the market will surge forward, it will, at least for a time. 

Part of the appeal of scalping is the fact that you don’t need to know much about the market in order to make low-risk, low-reward trades with it.

2. Two-Hour Trading

Most stock markets will make use of “pattern day trader” rules. These are rules that state that you can only day trade instantly and infinitely if you keep your account above a certain level of capital.

As a result, people have developed “two-hour trading” as a strategy. The basic idea is that if you can’t buy and sell a position on the same day, you might as well buy at the end of the day and sell at the beginning of the next day. This usually leads to a positive result, as markets tend to rise in between days about 80% of the time. But forex markets are always open, so how does this apply here?

Well, there are two ways to make use of the principles of two-hour trading, even if the limitations that caused it to exist don’t apply to forex trading. To start with, because the central banks of given currencies do have schedules, even if the forex market doesn’t, you can still enter into positions at the close of one day and exit those positions at the open of the next day.

But second, you need to sleep eventually. The forex market might be up 24 hours a day, but you can’t be operating like that for long. Nor can anyone else in the world. That means that there will be a time during the day when things regularly increase as people wake up and participate in the market. Then, there will be a time when things regularly decrease as people go and do other things.

Try to establish your own pattern based on buying during the second time and selling during the first.

3. Mean Reversion

As far as basic strategies go, this one is easy to understand but hard to execute. At the same time though, mastering it can open a lot of understanding as to how the market works.

In order to understand mean reversion, you have to understand how markets chart their prices. When you look at a forex pair’s price over time, it will usually be represented by a line graph. But if you watch the price change as it is changing, you will notice something odd: The line goes up and down during that period of uncertainty about whether it is getting ready to rise or fall. 

What will usually happen is that whether a price is rising or falling, there will be little “notches” in the line. The line will trend up, but it will have small decreases in the line. These notches are the result of the average price of the forex pair being lower within a five-minute period than it was either before or after that five-minute period. Mean reversion is the act of buying during those notches.

That means you must watch the forex pair’s price and wait for it to hit a plateau where it stops increasing. Then, place an order for the pair at a price around 1% to 2% lower than the current high.

Usually, you will enter into a position that is lower than that high right before it continues its trend up.

Then, all you need to do is sell once it has started to trend down. You will have developed profits over time as you reap small rewards from those little notches in the climb. You are never committing too much, so if the pair goes into a reversal, you can exit while still taking some profit.

4. Over-Tracking

There are several names for this technique, none of them good. What this technique boils down to is watching volume. There is an average volume of every currency pair. This average volume tells you how much that currency pair is usually traded during a given day. This value is not all that reliable, as an average takes into account the highest highs and the lowest lows, but it can tell you one thing.

Generally speaking, it can tell you whether or not a forex pair is “oversold” or “undersold”.

You see, even though money is an illusion, and they can always print more, the amount of money in any given space at any given time is massively limited relative to that conceptual infinity. Even in the fast-paced world of forex trading, there are only so many downside trades a currency can take before people start to get curious about making upside trades again. The same is true for upside trades.

The trick of over-tracking is figuring out when a forex pair is oversold, and when it is overbought. This is a more complicated trick than it might seem, however. Lots of people assume that “oversold” and “overbought” will always happen when the pair hits half its average volume. This is far from the case.

Oversold and overbought conditions emerged in volatile market conditions. Most times, a forex pair will go an entire day without being oversold or overbought. One might make the argument that overbought and oversold conditions are better applied on the weekly time scale than the daily time scale. Many people have seen success with this even in low volatility conditions, though with drawbacks.

Chiefly, it is harder to both track and predict how volume will happen throughout a week as opposed to throughout a day. There are weeks where people who haven’t sold in months suddenly start leaking their positions onto the market. Options can also cause volume issues for similar reasons.

All the same, if you see people panic buying before, during, or after a big price move in either direction, you can check the volume. If it is above normal when it’s high, it’s overbought. If it’s above normal when it’s low, then it is underbought. 

5. Trend Trading

This type of trading is pretty fundamental to just about every market out there. Trend trading is the act of identifying a trend upwards and buying during that trend, and then selling at the beginning of a trend downwards.

Sounds simple, right? On the surface it is, and you don’t have to overcomplicate it much in order to make money from of it. But maximising it by understanding what is going on under the hood will help you make a lot more money. The first thing you should be asking is: “What is a trend?”

A trend is not simply “the stock is going up” or “the stock is going down”. During a trend, the stock alternates between going up and down, but ultimately leans towards one over the other. 

Imagine the price of a forex pair. It starts at 100 pips. It goes up to 150, then down to 90. Then, it goes up to 170, then down to 110. You can probably tell it’s trending upwards. That is because both the high of the rise and the low of the fall are increasing. If you extrapolate this trend outwards a little bit, you will see that you can draw a perfectly flat line that intersects with all the lows of the falls.

This is obviously a highly simplified example, but if you apply the same logic to an actual forex pair, you will usually find that finding these “trend lines” is easier than you think, whether you’re doing it over the course of a day, or over the course of a week. But what do these trend lines mean?

Well, the bottom trend line is the “demand line”. It represents the base amount of demand the market has for a foreign currency. The top line is the “support line”. This tells you how much both the market and the central bank of that currency can actually get that currency to people who want it.

There are things that can bring down the demand line. Demand for the Ruble saw a massive drop after Russia invaded Ukraine. And of course, things can mess up the supply line. Most countries are currently increasing interest rates on their loans, making their money harder to move efficiently.

If you can identify what, when, and why a forex pair is traded, then you can get the trend lines to practically sing their intentions out to you.

Advanced Forex Day Trading Strategies 👀️

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So far, we have stuck to day trading strategies that only include one other element than just buying or selling. Trend lines, volume, notches, these have a strong, noticeable impact on the price of a forex pair. 

But what about more advanced strategies, where both you and the market are less certain? That’s what we are going to get into now. These will use more volatile and unintuitive financial instruments, as well as introducing multiple ways of tracking the value of a currency pair simultaneously.

6. Bollinger Band Trading

The Bollinger band is the range created by three data points. First, the centre of the band is the given forex pair’s 20 day simple moving average, also known as its 20 SMA. This is the average total number of trades made of that pair, whether they are buys or sells, over the last 20 days. 

It is called the “simple” moving average because every day is considered to be of equal value. When we get to using “exponential moving average”, we will consider recent trades as more valuable.

The other two data points of the band are the highest high and the lowest low prices of the forex pair that day. Obviously, this will change throughout the day, so be ready for your valuation based on this band to adapt. Once you know a highest high, and a lowest low, even if they are not the eventual highest high and lowest low, all you have to do is buy at low 20 SMA and sell at high 20 SMA.

After all that set up, a lot of people are disappointed that it boils down to “buy low, sell high”. But that is not a bad thing. This strategy revolves around understanding that volume is not as simple as over-tracking can sometimes make it seem. This is over-tracking, but with extra certainty.

7. Fibonacci Retracement

Many different things in nature, graphic design, and architecture make use of the Fibonacci sequence. For example, the number of petals in a flower consistently follows the Fibonacci sequence. This is a sequence of numbers that usually correlate to things just “feeling right”. The exact math of the actual mathematical expression for the Fibonacci sequence is not as important as the numbers it gives us. What you do first is find the top of a recent trend heading down, or the bottom of one heading up.

The assumption of Fibonacci retracement is that if you start from a low point, then you should buy as low as you can, and then sell when the forex pair becomes 23.6% more expensive. The price will fall again, but it will stay on an upward trend line. Once it starts rising again, buy it again.

This time, it will peak at 38.2% of the original “bottom”. You sell again, buy it again once it starts recovering from its fall, and finally sell one more time at 61.8% higher than the starting point.

Obviously, the hardest part here is calculating these Fibonacci-derived percentages. One thing worth noting, however, is that this only works when price action is consistent. If there is volatility in the market, then this strategy will usually result in a forex pair blowing through one level or another.

8. EMA Crossover

This is a strategy which uses a combination of two factors. The first is the “fast EMA”, which is the exponential moving average of the most recent 20 days or less. The second is the “slow EMA”, which is the exponential moving average of the last 200 days or more. What you will notice when you compare these is that they project a forex pair to move in two opposite directions.

The reason for this is that the slow EMA will make things look like they are always building and growing in value, as securities tend to do in the very long run. The fast EMA will do the opposite, as it will end up taking into account more short-term downturns than the slow EMA.

What you are looking for is reversals that happen when one overtakes the other. When the fast EMA is higher than the slow EMA, that is when you buy. When the slow EMA overtakes the fast EMA, sell.

9. Options Hedging

Let’s briefly explore how you can use options to either hedge your bets or multiply your wins. When you take out options, you will usually end up buying a cheap contract for an expensive position that is somewhere in the future. It could be two weeks in the future, it could be two hours in the future.

Either way, your goal is to sell that contract before you are actually compelled to act on it. The great thing about options is that a cheap contract will increase in value just by the price of a forex pair going in the same direction as its final destination. That means that even if that target price is never met, you can make back some of the cost of the contract (or a profit if it was cheap enough).

If you are taking a risky position, then you can use options to turn a small hedge against your own position into a potential profit against it. Imagine you buy AUD/USD at .85 pips expecting it to go to 1 pip. That’s a lot of volatility you are assuming, but sometimes volatility is safe to assume.

If it might go from .85 to 1, then it might also go from .85 to .70. Take out options to sell AUD/USD at .75. If the price of AUD/USD starts to turn against you, those options will get more valuable.

Just be sure to always sell them no matter what.

10. Keltner Channel Band

The Keltner Channel is a range of prices between two points: The first is the high point of the 10 SMA, and the low point of the 20 SMA. A mathematician discovered that these two points often coincided with the volatility of the market on a given day. Therefore, you could track volatility based on them.

However, it is important to remember that you are not using this band to track price. You are using it to track volatility. Volatility will often relate heavily to price, but the band is not an exact container of price.

What the Keltner Channel band contains is the volume. At the 20 SMA, you will find a period of elevated volume towards either positive or negative, while at the 10 SMA, you will find a period of elevated volume in the opposite direction. This pattern will oftentimes repeat, or at least invert.

In both the case of the inversion and the case of the repeat, you can profit from seeing it coming.

Conclusion 💡️

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When a person learns these strategies and starts to really get into forex trading, it can be tempting to try and dump all this knowledge on every trade. But if you are day trading, then all you will end up doing is confusing yourself and wearing yourself out. Remember, no strategy is perfect.

Most of these strategies are what is known as “technical analysis” strategies. That means they make estimates of price action based on previous price action. They do not consider what is going on in the world, like interest rate increases, wars, recessions, and resource management problems in a country.

In times of comfort and peace, technical analysis can make you lots of money, as the market will be easy to predict. But in times of elevated volatility, instead turn your eyes to what is going in the world around you. See what might make a currency go up and down on the political stage, rather than the mathematical one. If you can be keenly aware of both of these things, you will surely profit.

And, as always, trade responsibly. Forex is tempting because it can make you a lot of money. But anything that can make you a windfall of cash can also take everything from you if you let it.

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