Advanced Training: Momentum Trading

The Strike 3.0 tools are used for two different strategies:

  • Strike 3.0 Momentum Strategy
  • Strike 3.0 Reversal Strategy

In this training we will be discussing the Momentum Strategy. Next month, we’ll look at the Reversal Strategy.

What Is Momentum?

Investopedia.com defines momentum as:

The rate of acceleration of a security’s price or volume. In technical analysis, momentum is considered an oscillator and is used to help identify trend lines.

http://www.investopedia.com/terms/m/momentum.asp

 

NZDUSD Momentum ExamplesWhen momentum occurs early in the movement of price, it is a good indicator of the direction in which you want to enter your trade. As momentum continues and progresses, price will push past the point at which you want to enter and will become overbought or oversold. That’s the point at which you should expect price to begin to reverse.

Early momentum is the time at which the “smart money” or professionals will be entering the move. Late momentum is the time when the public gets wind of the move and they start to load on. Late momentum is when the “smart money” is expecting a reversal.

 

How Can We Measure Momentum?

Momentum can be measured using several different technical indicators:

  • Price Action
  • Simple Trend Lines
  • Moving Average Convergence Divergence (MACD) – trend-following momentum indicator
  • Relative Strength Index (RSI) – momentum indicator that compares the size of recent price gains/losses over time to measure speed and change of price movements
  • Intraday Momentum Index (IMI) – combines candlestick analysis with RSI
  • Bill William’s Awesome Oscillator – Similar to the MACD

As anyone who’s been in our trading room for a few days probably already knows, our Strike 3.0 tools use the RSI indicator to measure momentum. The Strike 3.0 exhaustion tools are a very convenient way to see instantaneous momentum on all time frames as well as historical momentum on the primary time frames simultaneously. We have developed our very profitable momentum trading strategy around these tools using price action for confirmation of entry.

The Strike 3.0 Momentum Strategy

 

The Strike 3.0 Momentum Strategy uses the Strike 3.0 Scanner, Strike 3.0 Exhaustion and Strike 3.0 MultiTrend indicators in addition to price action to find trade entries.

 

Strike 3.0 Scanner SignalFinding a trade entry begins with the Strike 3.0 Scanner. The scanner will provide an alert to a currency pair that is showing momentum on the 15 and 30 minute time frames (default.) If the scanner alert is set on, the scanner will sound and the pair name will change from black to green to indicate a signal on that particular pair. The arrow itself may disappear, but the pair name will remain green for 30 seconds (by default.)The signal on the scanner is only the first of many steps to determine whether you have a valid, tradeable signal. Don’t enter a trade just because the scanner alerted you. The next step:

 

 

Fresh Signal ExampleEither the M30 (30 minute) or the M15 (15 minute) signal must be “fresh”. A fresh signal is determined by looking at the Strike3-Exhaustion historical exhaustion tool. One or both of these indicator bars at the bottom of the chart must show gray in one of the last two prior candles. Gray represents neutral RSI for that time frame (between 40 and 60.)  Either time frame signal may pop on and off as the candle moves up and down. The signal will still be valid.

 

 

Multitrend Reversal Signal ExampleBefore you enter the position, be sure there are no Reversal signals appearing on the Strike3-MultiTrend indicator on time frames smaller than the Daily time frame (1M – 4HR.) Reversal signals on the daily and weekly time frames typically don’t affect the shorter term time frames that we are trading.
Reversal signals appear on the Strike3-MultiTrend indicator in the Exh column (the right-hand column) in the form of a dark green up arrow or a dark red down arrow with a number to the right of it.

 

Example of Rule 4 - Pushing through a level

Price must breach (push through) a prior support/resistance level. This can be in any of the following forms:

  • Current or Prior High or Low of the day (Strike3-Levels tool.)
  • A moving average
  • Weekly or Daily Support/Resistance level
  • Psychological level – also known as a big level or big number – price ending in 0 – the more 0s the better. The Strike3-Levels tool shows the 00 and 50 levels.
  • Prominent support/resistance level on a shorter time frame.

Example of Rule 5 - Too Close to Another PositionPrice should not be near another open position on the pair. I define “near” as either in profit or within 20 pips of the entry price. This will protect you from too much risk.

 

 

 

Example of Rule 6: Enough Space for ProfitThere should be enough space for profit between the trade entry and the nearest Prior HOD, Prior LOD, support or resistance. For the purposes of this strategy, I define enough profit as 8 to 10 pips. The reason for this rule is that price could stall or take a bounce at these levels and we may want to close the trade here if it does. Price may push right through these levels making this rule moot.

 

 

Example of Rule 7: No Red-tagged events

No scheduled “red-tagged” upcoming data release (within the next hour or so) or past data release (within the last 15 minutes) on either currency in the pair. Red-tagged data releases can rock the market and whip the price around quite a bit causing “false” signals. I use forexfactory.com to identify red-tagged news events.

The spread on the pair to be traded should be somewhere near normal for that pair and your broker. Normal spread will vary depending on the pair and the broker. Commissioned brokers will typically have lower spreads than non-commissioned brokers. Exotic pairs (e.g. GBP/SGD) will typically have higher spreads than the major pairs (e.g. EUR/USD.) Spreads typically increase (and can increase dramatically) during news events, data releases and even at session opens and closes. Know what the typically spreads are for your broker and your favored pairs.

Target 20 – 30 pips (20 – 50 pips for a GBP pair) – place the target ahead of a Support/Resistance area. Look for a support or resistance area around 20 – 30 pips away and place the target 2 or 3 pips ahead of that area (depending upon the spread and direction.) The GBP pairs typically move farther and faster than the other pairs, so pushing the target out to 40 or even 50 pips is acceptable. Place the target AHEAD of a S/R level so the market doesn’t have to do any “work” before hitting your target. Use smaller targets during slow market times.

Trade Management

The momentum strategy works best during the early New York and London sessions. I have had the best success entering trades between 7am and 11am New York Time.

Keep your size small. I recommend no more than one micro-lot per $500 to $1000 in your account. This will allow you to let the trades swing – and allow you to trade multiple pairs on the same currency without excessive risk.

I don’t use hard stop losses. I use the Strike3-Money tool (which closes all positions on a pair when the loss exceeds the specified amount) to be sure I don’t exceed my risk. It makes calculations much easier. I do, however, reduce the size of my position by approximately ½ to reduce risk if it goes more than 100 pips against me. I will cut the trade off completely if it goes more than 150 pips against me. So size the trades accordingly.

We don’t get married to the target. Some strategies require that you hold for your target because you have to hit it for statistical reasons. The Strike 3.0 Momentum Strategy has no such requirement. When the trade is in decent profit (8-10 pips or more), close the trade if price seems to be stalling or reversal signals start showing on the board. Just be sure you are closing the trade because you objectively believe price action is stalling – not because of any emotional reason. Study charts extensively to understand how price moves. You may not always be right, but you’ll have profit. And don’t worry if it goes on and hits the target, you’ve got your profit, move on to the next trade. That will keep you from getting ulcers.

Summary

The Strike 3.0 Momentum Strategy works best when there is a lot of activity in the market. Typically you shouldn’t have to hold a position more than 24 – 48 hours.

This is the way I trade the momentum strategy, however, trading is very personal. You don’t have to do it the way I do, but I suggest you start doing it this way to find out what works for you and what doesn’t. Once you understand the underlying concepts, you can modify the rules to fit your style.

Be sure to learn and practice on a demo account. My piano teacher used to tell me “Don’t practice until you get it right, practice until you can’t get it wrong.” Once you have the platform skills and strategy skills and are profitable on demo, then do it on real money.

If you’re interested in more information about our Strike 3.0 tools and trading room, take a look at our 14-day trial.

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  • Iqramul Islam

    Understanding momentum is an important for trading properly. Thanks for the great tutorial out there but if the charts are not up to the mark and the MT4 software is not proper then we cannot measure the momentum well and it might result to losses. I suggest and prefer Trade 24 as one of the best and most clear chart provider with best MT4 available till date. All the analysis of mine is quite accurate due to the calculation and data provided by Trade 24.