Learn How to Read a Price Chart
When most people start trading Forex, they will jump into a search for a profitable forex trading strategy. They may have picked some strategy up from YouTube, forums, a Forex academy, books or wherever. However, strangely enough, after applying the strategy in live Forex markets with real money, it does not somehow make them profit, but ends in a loss. So, what exactly is going wrong here? Why did the strategy that worked for other traders not work for them?
Here is the fact: If you rely blindly on a simple trading strategy that you have learnt, and apply it every single time you see it occurring, the chances are you will end up losing more than you win. If it were that easy to succeed, then everyone would be rich. Anyone can learn a simple moving average crossover strategy, or a double top strategy. Yet if you enter a trade every single time you see a double top, I am certain you will end up losing more than you win overall.
So, what is the answer?
Learn to read the chart!
This is the first thing you should do as a new trader. When you learn how to read a price chart, you will become able to understand why the price is going up, down or sideways. Also, where the price is most likely to head to next.
For example, you see a double top set-up (telling you to sell), but if you read the chart, you can tell that the price is actually trying to break upwards. Therefore, instead of selling, you should be looking for opportunities to buy.
By learning how to read the chart, you can literally reduce your losses by half, because the next time you see a pattern that tells you to sell and, if through chart reading, you sense that the market is trying to head up, you can just skip the sell trade and avoid that loss. And even better, you can then apply the right buy strategy instead.
Use the Correct Risk per Trade
One of the reasons why people blow up their account when they first start trading is a result of using the wrong risk percentage per trade.
Right at the start, you should decide what percentage of your account you are going to risk per trade.
For example, say you have a $1,000 account, and you want to risk 100% per trade. What this means is that (in simple terms) if the trade you enter makes as profit equal to the amount you risked, you will have made 100% profit. So, your $1,000 capital becomes $2,000. Of course, if you lose that first trade, all your capital is gone.
As you can see, risking 100% per trade trade is akin to gambling. This is definitely not the way forward. The game behind the risk percentage is that if it is too big, it is too risky. Yet if it is too small, you might want to overtrade in order to compensate for the overall low return, which could be detrimental to your trading.
The trick is to risk a percentage which is low enough for you to not be afraid to trade, but yet at the same time be high enough to be meaningful to you as a gain. The textbook rule says this is something between 1% to 3% per trade, but of course, trading in real life is nothing like any textbook.
If you have capital of $1,000 and you risk 1% per trade, this means if you lose a trade you will lose $10. This is OK, but if you win, you win $10 as well, if your reward to risk ratio is 1:1. If you have a daily goal, e.g., $100 of profit per day, then you must make 10 winning trades to make that $100. The chances are, because you are forcing yourself to trade more, you will probably end up taking trades that you should not have taken.
So, the rule of the thumb is to consider your trading capital, what you will win per trade, and what you will lose on a trade, by various risk per trade percentages. Settle for what makes sense to you emotionally and is neither too small nor too large.
Apply a Good Reward to Risk Ratio
Why do some traders have more winning than losing trades yet make a net loss overall? It could boil down to them taking small wins but big losses. That does not make sense, does it? But it is often the truth you will see if you look at the trading history of many unprofitable traders.
This is where the importance of reward to risk ratio comes in.
What is a reward to risk ratio? Well, if your reward to risk ratio is 1:1, it means that the number of pips from your entry price to your stop loss is equivalent to the number of pips from your entry price to your take profit target.
If you have a win rate or 50%, and if your reward to risk ratio is 1:1, then, generally speaking, you are a breakeven trader.
However, if you have the same win rate of 50%, yet your reward to risk ratio is 2:1, then, even if you lose half and win half, you are a winning trader.
If you have capital of $1,000, and your risk percentage per trade is 2%, you will risk $20 on your next trade. So, if you have a reward to risk ratio of 2:1, when you lose, you lose $20, but when you win, you win $40. See the first chart below where the risk is 30 pips and the reward is 60 pips for an illustrated example.
With a win rate of 50%, out of 20 trades, on average you lose 10. Losing $20 multiplied by 10 trades equals $200. However, you won 10 trades at $40, which means you made $400. So even if you won 10 and lost 10 trades, you have still made $200 in net profit.
Next time you trade, ask yourself, what is my reward to risk ratio on this trade?
Use a Proven Trading Strategy
If you are asking how to earn profit in forex trading, know that there is nothing more crucial to this than using a proven trading strategy.
What is a proven strategy? It is a strategy that not only works in the slides or screenshots that you have learnt from, but also one that has been proven to work in the past, year after year.
There will be years where the strategy makes you more money and years where it makes you less. That is normal in the Forex market. But it must be consistently profitable.
You cannot have a strategy that makes you money over one year but where you lose money the next year. You cannot rely on that strategy as you never know whether you are going to be profitable this year or not.
Why is having a proven trading strategy important?
Because there will be weeks where you find yourself losing. Yet if you know that your strategy will make you profitable at the end of each year, you can find the courage to persevere and keep going through the losing streaks.
If you do not understand this, then you will begin to doubt yourself, doubt the strategy, and may just give up, only to realise that had you continued following your trading plan until the end of the year, you would have been profitable.
Back Test, Back Test, Back Test
How do you know if the trading strategy you are using is a proven strategy?
You back test it.
If you are trading with the MetaTrader 4 trading platform, all you simply need to do is to scroll back in time to where you want to start the back test.
Next, press “F12” on your keyboard. This will allow you to go forward bar by bar every time you press the F12 button.
As you scroll through, each time you see the setup, record your wins and losses.
If you are profitable over one year, back test the second year, then the third.
If you are profitable for the last three years, you know you have got yourself a winning strategy.
When you back testing, you will see for yourself that losing streaks are natural and unavoidable. The key lesson is not to panic and not to let it affect your judgement when it happens.
Time Trade Entries Carefully
There might be a group of five traders who spot a similar setup, one that they have learned together from the same coach. However, out of the five traders who entered the trade, maybe only two have made money out from that trade, while the other three have made a loss.
Trader A may enter later than Trader B on the same setup. And because Trader A entered later, the market retraces back a little to hit trader’s A stop loss only to come back in the intended direction and produce a winning trade.
This shows that even if the setup is the same, the timing of an entry is important. If you missed the boat to enter one candlestick ago and the trade has moved on, then skip that trade – do not chase it.
The entry timing not only affects where your stop loss placement is, it will also affect your reward to risk ratio and how close your take profit target is near to your entry level.
Use a Complete Trading Strategy
When people say that you need to have a trading system, what does this mean?
A proper trading system is not just having a good strategy. It is about the overall game plan and not being overly fixated on an individual trade.
It is about looking at the overall reward to risk ratio of all the trades you are taking. It is about looking at your risk percentage and your win rate.
All these factors will translate into your becoming either a winning trader or a losing trader.
A professional forex trader understands that the game is about more than just having a good strategy.
Keep your Emotions Under Control
Emotions are the number one killer in trading. In poker, there is a term called “tilt”. “Tilt” is when a poker player gets their emotions all messed up and starts playing differently (too aggressively) in an attempt to win back their money.
The same goes for trading, you do not want to be on “tilt” when you make losses. Losses happen and will always happen to some extent – this is part and parcel of trading.
There are many cases of people losing and starting to “revenge trade” as a result. They increase the size of the next trade to try to make up for the earlier loss (this is actually part of the “martingale” money management strategy). Usually, before you know it, the revenge trader has blown their entire trading account.
This phenomenon is a well-known aspect of trading psychology.
Remember to treat every trade as a new situation. There should not be any emotional baggage carried forward from one trade to the next.
If you made a loss on the last trade, you might get so demoralized that even when you see a good setup, you let your previous loss influence you and you do not feel confident in taking it – but for no good reason.
The same goes for being overconfident because you won your last trade. Or maybe you had three wins in a row, and you feel like you are unstoppable. When that happens and if you feel that you are on a winning streak you want to take any normal-looking trades even if they are not really part of your strategy or system. But because you feel unbeatable, you start to trade the trades you normally would not touch.
Keep your emotions in check all the time. Any time you feel that you are overconfident, overexcited, or demoralised – feeling the urge to revenge trade and be aggressive – STOP. Take a break until you feel that you have regained your composure.
Win Big, Lose Small
This should be your mantra in trading: win big, lose small.
Take a look at your trading history. Is your average win bigger than your average loss, or is it the other way around?
Think about it this way: if you win with a reward to risk ratio of 1:0.5 most of the time, then you will need two wins to cover one loss. You will need three wins to just be barely profitable.
Does this make sense?
If your trading record does not make sense, it is time to take a fresh look at your trading strategy, your risk-reward ratio, your win rate, etc., and then come up with a game plan designed to make you profitable, and then stick to it no matter what.
Trading is like a business. You may think that having a good product/service is enough. But then you realise you need to make your product known and available, plus all kind of other factors.
This is why every proper business has a CEO and a team below them. There are the salespeople, the marketing, the HR, the logistics, the accounting, etc. The CEO looks at the overall picture and steers the ship in the right direction.
The same goes for trading. You cannot just have a good strategy, or the best risk per trade.
You need to act like a CEO and look at every aspect of your trading, and make sure each factor sticks correctly to the overall trading system. Any time you feel that your emotions are not under control, then stop. Any time you feel that you have the urge to take a sub-optimal trade just because you want to trade without the discipline of your trading plan, stop. Any time you feel that you want to take your profit too early for a small win, stop.
Once you understand the game of trading, you will know when to trade, when to exit, and when to walk away from the table.
How do you profit from Forex trading?
Learn chart reading, have a proven strategy, define your trading system (your game plan) and then stick to it. Once you have that, keep refining it until it is fine-tuned for maximum profit.
What is the average profit in Forex trading?
It depends on how many trading strategies you have and how many trades you take in a month. If you have one proven strategy and that strategy only has five trades a month, compared to a trader who has three proven strategies with 15 trades a month, then the trader with three strategies will make three times more than the first trader. It also depends on the risk per trade and the reward to risk ratio. Generally, an annual return of 20% or even more is quite possible.
Can you make a living from Forex trading?
The simple answer is yes. However, you will need to work hard to master all the trading techniques you will need to trade well enough to make a generally profitable return. Of course, much depends on how much capital you have.