Saturday, January 15, 2011

Trading strategy: buy on dips (or short sell on spikes)

This trading strategy is simple, easy to use and understand. In fact, you don't even need any indicators or oscillators for it, and it is pure technical. It mainly is for fast markets like Forex, but you can also use it for stocks or other equities that have high volatility and is very short term, also referred to as 'scalping', it's mainly done on the 1 minute chart but you can also use it on 5 or 15 minute chart if you want to test this strategy on a longer term, although I don't recommend it. It's pure timing and a little luck, the opportunity doesn't always come, but when it does, you can make a lot of money in a very short time, therefore is risky and mainly for day traders and scalpers. In a general sense, here's how it works in a Forex example (a buy order);

Open your trading software and select the 1 min chart (each candle represents a minute, so be careful and don't use any indicator or oscillators, they're useless in this instance).
You get in the trade when the candle stick dips very low (more so then normal), basically enough to cover your spread cost and then some, it will show as a long candle (red). Then when the next candle is being formulated (buyers getting in on the cheaper price, driving up the price again), its likely that it will be in the opposite direction (green candle), you're not going to be in a trade longer then one or two candles, depending on what the markets wants to do at the time. However, in this example above, if you would have bought in on the yellow buy (two green candles next to each other) you could consider yourself lucky making a profitable trade selling a top since usually a red candle would appear. The classic example of buying on dips, sell on spikes is in the third example of BUY and SELL on the chart. Buying on one red candle (the lowest price in that minute would be ideal) and selling on the green candle (the highest price possible).
These are three scenarios drawn out, the most common ones I think. You can also trade the opposite direction too, short your position on a green candle and try to buy back on the lowest red candle (dip). Experiment with this technique, it's a good add-on for your trading tool box in case the market gets really volatile in a short period of time, if you're on the right side of the fence you can make a lot of money in a short period of time. In this example it's actually a trade on the EUR/USD Forex chart, but, of course it would also work with volatile stock. You can also use it for your entry position on a buy order for a mid term trade. Be careful though since this strategy is very risky, experiment first in your trading software before entering a real trade.

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