Forex strategies

Trade the range strategy's explanation


Buying highs and selling lows (or vice-versa during downtrends) works great when the market is trading. But, how to swing trade the market if there is an absence of trends? Trading the range is all about that.
Markets that move sideways, i.e. are ranging, form strong support and resistance zones and tend to bounce off those levels. The highest price that a financial instrument reaches in a ranging market is referred to as the resistance zone, and the lowest price reached is referred to as the support zone.
This can be observed in the following chart. Notice the support and resistance zones in the chart, and the swings that the market forms after the price reaches one of those zones.

A swing trader would look to buy when the market reaches the support zone and to sell when the market reaches the resistance zone. Support and resistance levels work because market participants remember price-levels where the market had difficulties to break above or below. As a result, they place a large number of orders around those levels which creates enormous buying and selling pressure. Profit-taking activities also cause a reversal of the price after it reaches support or resistance zones. Investors who were long need to sell in the market to take profits, creating selling pressure in the market which sends the price down. Similarly, investors who were short need to buy in the market to take profits, creating buying pressure in the market which sends the price up. When trading support and resistance zones in a ranging market, I personally like to wait for fake breakouts combined with bullish and bearish divergences in oscillators, such as the Relative Strength Index.

A swing trader would look to buy when the market reaches the support zone and to sell when the market reaches the resistance zone.
Support and resistance levels work because market participants remember price-levels where the market had difficulties to break above or below. As a result, they place a large number of orders around those levels which creates enormous buying and selling pressure.
Profit-taking activities also cause a reversal of the price after it reaches support or resistance zones. Investors who were long need to sell in the market to take profits, creating selling pressure in the market which sends the price down.
Similarly, investors who were short need to buy in the market to take profits, creating buying pressure in the market which sends the price up.
When trading support and resistance zones in a ranging market, I personally like to wait for fake breakouts combined with bullish and bearish divergences in oscillators, such as the Relative Strength Index.

Fake breakouts occur when the price is seemingly breaking above a resistance zone or below a support zone, only for the price to return to the “range” with the next candlestick.
Fake breakouts occur for a number of reasons, such as when a large number of stop-loss orders around S/R levels get triggered. In a fake breakout above a resistance zone, sellers are joining the market again as they perceive the new price to be too high, i.e. overbought.
Similarly, in a fake breakout below a support zone, buyers are jumping into the market as they perceive the new price as an attractive price to buy the financial instrument. These activities send the price inside the range again and show traders that higher/lower prices are currently rejected.
Combined with a bullish or bearish divergence, fake breakouts produce high-probability trade setups.
A bullish divergence forms when the price makes a fresh lower low, but the oscillator fails to follow the price and forms a fresh higher low instead. In bearish divergences, the price forms a fresh higher high, but the oscillator diverges and creates a fresh lower high instead. This can be seen in the following chart.

When trading the range, a swing trader should place a stop-loss level just below a support zone if he’s going long, or just above a resistance zone if he’s going short. Profits can be taken near the resistance zone for buy positions, and near the support zone for sell positions.