In many cases, novice traders feel the need to pick and choose their go-to timeframe. It seems like this single timeframe approach is a very common mistake made by traders seeking to simplify their trading analysis by what many refer to as ‘zeroing in’. By Joshua Martinez, Market Traders Institute, Inc.
In reality, limiting your forex trading analysis to a single timeframe (either a long-term timeframe for swing traders or a short-term timeframe for the day trader or scalper) actually limits the scope of the technical analysis research to the trader’s disadvantage. By looking at only a small snapshot of the market’s past movements as opposed to what could be found by using multiple timeframes, traders might be limiting the number of trading opportunities that they are exposed to and could therefore act upon.
Now, I must say that this conclusion about this mistake is not fully based upon hearsay. I fell victim to this limited thinking at one point myself and it was only after I broke out of the habit of oversimplifying my trading analysis that I learned how to keep my technical analysis simple without sacrificing the quality of what my efforts were showing me about the market’s direction.
The parent-child relationship of market timeframes
There’s a metaphor that I often use to illustrate the importance of the relationship among varying timeframes in teaching new traders. The metaphor is that of the similarities of the parent-child relationship to that of the connection between various timeframes. Now, there is no doubt that a child has their own mind and their own free will. At the same time, the parents or the child’s guardian are the ultimate decision makers on where the child will go and how they will behave based upon the lessons that they pass down and the guidance that they offer to the child.
A much similar relationship exists between the smaller timeframe’s actions versus that of the larger timeframe. In the parent-child example, the child is the smaller timeframe; the timeframe where you will see some action based upon the market’s will, but not completely free of all restrictions and guidance from the overall direction of the larger timeframe. After everything is said and done, the larger timeframe still calls the shots much like the parent guides the child. You’ll see that in the forex market, the larger timeframe, which many traders look to for long-term direction, actually offers technically sound patterns in the market that can be seen reflected on the smaller timeframe.
Seeing it in action
Now, seeing is believing, right? So, let’s take a look at this concept in action to learn what it means to our trading plans.
How this relationship works to your advantage in the trading world is two-fold. The larger timeframe will serve to provide you with insight into the overall direction of the market for that particular currency pair that you are interested in trading. This relates to how the parent lays down the framework for how the child should behave. Again, in this case, the child is the smaller timeframe. I typically utilise the monthly and the daily charts for my longer-term, directional technical analysis. The monthly timeframe typically shows me the next A-B-C-D formation for the next 2000 pips-worth of movement. The daily timeframe shows the corresponding movements that create the larger A-B-C-D formation for the next 500 to 1000 pips worth of market action.
If you’ve never utilised A-B-C-D formations in your technical analysis, this formation basically outlines predicted trends in the market by labelling major directional shifts. In essence, in an uptrend, you would label your initial market pivot point as your A. The new high is then labelled B. The lowest point between the A-B boundary after your B is established becomes your C (you probably know this as the point of retracement). Finally, the D point becomes your new target high after the C level/retracement has been established. Of course, these points are labelled inversely on a down trend movement…Excerpted from an article originally published in the May/Jun 2014 issue of YourTradingEdge magazine. If you are a subscriber to YourTradingEdge magazine, you will receive this article in your May/Jun 2014 issue of YTE. If you are not a subscriberr, click here.