The DIBS Forex Trading Method

To be able to trade profitably, a Forex trader must develop a trading strategy through repeated testing to prove it works. We also have different personalities, and after trading the Forex market, we may come up with vastly different trading styles which are all profitable. When starting your trading career, it may be difficult to create a Forex trading strategy until you master the trade, and although it’s not always recommended, you can try to copy another successful trader’s strategy, at least for a while.

Of course, the most successful traders are also the very best in the industries and worked with investment banks and hedge funds, and a good example is Peter S. Kraus who worked at Goldman Sachs for 22 years. He came up with the DIBS trading method, which represents ‘Daily Inside Bar Setup’.

How the system works

This trading strategy is primarily suited for technical analysts, although it is not restricted to everyone else. The basic principle behind this system is to buy an asset on its ‘up’ day and sell it on its ‘down’ day; in this case, the asset would be a particular currency.

The question now arises, how do you know an ‘up’ or ‘down’ day? Simple, just check the day’s opening price at 6:00 GMT compared to the previous closing price. To do this, we first need to define the ‘inside candle’, and this is the pattern created by the candlesticks where the most recent candlestick is completely engulfed within the previous candlestick, like in the illustration below. This pattern is a characteristic of indecision in the markets, presenting an opportunity to either buy or sell when market sentiment turns bearish or bullish.

Once you have identified the beginning of the trading day at 6:00 GMT, switch to the H1 timeframe and look out for this pattern throughout the day. Since the pattern represents indecision, you will also need a supportive indicator to give you a hint of the market sentiment, and a good one can be the moving average. Add the simple moving average to your Forex charts, and this gives you a sense of the markets’ direction – if price is above the SMA, the market is bullish, and vice versa.

Now that you know the market sentiment, the same inside bar pattern will inform you on when to enter and exit the trade. Once the engulfed candle closes above or below the SMA, place the corresponding buy or sell order, and do not forget about risk management. In the case of a buy order, the stop-loss should be just below the engulfed candle body, and vice versa on a sell order. The take profit should account for at least a 1:1 profit ratio, or if you are bold enough, you can place a trailing stop to help you catch the entire trend.

Precautions to take

• Make sure the candle is completely engulfed by its predecessor – both the candle and stick, this is the only sure way of identifying indecision in the markets.
• The candles should be trading above or below the moving average, not within the SMA line. The SMA line is supposed to indicate sentiment, and the candlesticks trending within the line only represents more indecision.
• Make sure to check if there is any news that might affect the currency pair you are interested in. any critical news announcements can completely alter the trend and render the strategy meaningless.

Advantages of the DIBS method

Although Peter Kraus recommended using the DIBS method on the H1 timeframe, the same procedure can work on most other timeframes including the M15, M30, H4, and daily timeframes. However, when using this method on the higher timeframes like the daily and H4 timeframes, you might have to adjust the opening time from the day’s 6:00 (GMT) to the week’s opening on Monday at 6:00 (GMT). This makes the strategy very flexible and versatile to suit every kind of trader whether they are swing traders taking long-term positions or scalpers looking for a quick profit.

Besides being flexible, it is also quite accurate. There is no 100% profitable strategy, and anyone who tells you they have one is bluffing or trying to scam you. The DIBS strategy, however, is accurate most of the time because it catches breakouts in the market when the big players make trades while also creating huge profits from quick price changes.

There is also something great about this trading method, the pattern can be spotted soon after the trading day begins often within 6 to 9 hours. The 6:00 (GMT) trading time is right before the time when the London session begins, overlapping the Asian session and the US session later, and traders tend to maintain the trading trend throughout the trading day. You see, when trading, every trader wants to follow the crowd, and this action creates a longer and thus more profitable trend.

The verdict on DIBS

Finally, it is important to remember that the DIBS method is vulnerable to economic factors and the individual’s interpretation just like any other strategy. That is not to say that you should not use it, though, merely that you should first practice using it on a demo account before you actually place money on it. This would also give you the opportunity to figure out which timeframe and currency pairs works best for you so your trades are more thought out.

All-in-all, it has been proven by all traders who know about it to be very profitable; its ease of use is just a bonus. Most people still don’t know about it, and the strategy is still obscure, but the results speak for themselves. Besides, all platforms offered by top Forex brokers will allow you to make use of this strategy.

by Martin Moni

The Role of Emotional Intelligence in Forex

The term emotional intelligence refers to the ability of a person to recognize and manage his own emotions and that of others. Coined by two researchers, Peter Salavoy and John Mayer, and popularized by Daniel Goleman in 1996, emotional intelligence corresponds to the area of cognitive ability that facilitates handling of interpersonal relationships and promotes self- awareness, social awareness, and empathy. Practically, this means that emotional intelligence has considerable impact (positive and negative) on the behavior of a person. The following article discusses how the emotional intelligence affects the performance of a Forex trader.

Skills making up emotional intelligence

As mentioned in the preface, emotional intelligence is made up of four main skills: self-awareness, self-management, social awareness, and relationship management.

While self-awareness and self-management reflects the personal competence of an individual, social awareness and relationship management reflects the social competence. Alternatively, self-awareness and social awareness can be clubbed under ‘what a person sees’, while self-management and relationship management can be clubbed under ‘what a person does’. Thus, it can be understood that all the four skills are intertwined in a complex fashion. Let us quickly go through each of those skills before discussing its impact on Forex traders in particular.

• Self-awareness — a ability of a person to understand his own character, feelings, desire, and motives. A person with good self-awareness would remain aware of the change in emotions as they take place.
• Self-management can be defined as the ability to use self-awareness to remain flexible and create positive changes in the behavior.
• Social-awareness — ability to understand others’ emotions and, in general, what is going on around us.
• Relationship management enables a person to use self-awareness and interact successfully by understanding the emotions of others.

Mind and emotional intelligence

The emotional response to an event is generated in the brain’s limbic system.  The primary senses enter into the brain through the spinal cord. However, before reaching the portion of the brain, which makes rational decisions, the signals enter the limbic system. Thus, adequate balance is necessary between the rational and emotional centers of the brain. Only then a person will be able to take actions without any dilemma. In other words, the level of emotional intelligence is decided by the quantum of effective communication between the rational and emotional portions of the brain.

Critical skills based on emotional intelligence

Emotional intelligence enables a person to focus the energy on a particular work, which ultimately leads to a stupendous result. Obviously, emotional intelligence lays the foundation for huge number of skills, which determine the performance of a person involved in any profession, including Forex trading and investments. The skills which are nurtured by the emotional intelligence and their impact on the performance of a Forex trader are as follows:

Anger management

Research has shown that a person who lacks emotional intelligence will be unable to control his anger. Ultimately, it would force the person to take wrong decisions. Rationale will not prevail where anger exists. A Forex trader who is prone to anger will get frustrated and make hasty trading decisions. Hasty decisions will lead to a loss. It will not end with that. The Forex trader, clouded by anger, would then try to take revenge on the market, thereby leading to more losses. Finally, the account would get blown off.  A trader with admirable emotional intelligence would sort out the mistake instead of getting angry.

Tolerance to stress

When the volatility increases, a currency trader who holds positions in the market would be certainly subjected to a certain level of stress which is determined by the open order size and the leverage used. Under such circumstances, it is the emotional intelligence, which would ensure that the Forex trader remains undisturbed by the increase in the volatility. Studies have proven that the emotional intelligence level decides the ability of a person to manage stress. Thus, a Forex trader with admirable emotional intelligence would wait for either the predetermined take profit or the stop-loss level to be hit and avoid modifying the orders. On the other hand, a trader with low level of emotional intelligence would feel stressed out and make wrong decisions, which will ultimately lead to a loss.

Time management

Time management is extremely important in the life of a currency trader, and emotional intelligence enables a person to achieve that objective. A Forex trader should allocate time for preparing himself for the next trading day. This includes market analysis, determination of entry and exit points, and maintaining a trading diary. Emotional intelligence will enable a trader to prioritize requirements so that none of the trading related activities are missed out due to lack of time.

Flexibility

Flexibility is another must have virtue of a Forex trader. Studies have shown that emotional intelligence influences the flexibility of a person in an astonishing manner. A rigid trader will find it hard to accept the mistakes. When market does not move as expected, a flexible trader will close the position and will wait for clarity to emerge. On the other hand, a rigid trader will average out losses until the account gets blown off. Professional traders are always flexible. They will vouch for the fact that market neither has a top nor bottom.

Accountability

A currency trader should be accountable for his actions. The response can be either positive or negative. That does not matter. However, a trader should not shy away from being accountable. That is what leadership is all about. Blaming on the market or the broker for the loss is quite commonly seen. While there is no denial of the fact that there are bucket shops who loot traders’ funds either by hook or by crook, most of the brokers adhere to business ethics. Thus, a trader should introspect himself and analyze the mistakes instead of trying to put the blame on external aspects. Emotional intelligence makes a person accountable, and any financial trader certainly needs that.

Social skills

Interaction and communication skills are a must for succeeding in any profession and foreign exchange trading is not an exception to this rule. A trader should not hesitate to communicate with a broker in case he has any doubt regarding the spread, doubtful price spikes, deposit/payment related issues, trading platform related problems, overnight swap rates charged, etc. Hesitation to communicate will only aggravate problems. If the person is new to Forex trading, then he should not have any qualms in asking doubts or exchange ideas with experienced professionals through forums and social media platforms. Emotional intelligence assists a trader to express his opinion without any constraints and in an eloquent manner.

Decision making ability

As discussed earlier, the primary senses enter the limbic system before entering the portion of the brain which makes rational decisions. Thus, any decision made by a person is the outcome of the cumulative effect of the rational and emotional center of the brain. If the emotional center is not performing well, then the brain’s response will not be adequate enough to resolve the issues. Studies have proven that the emotional intelligence impacts the decision making ability of a person. It is the decision making ability that ultimately decides the profit factor and drawdown of a Forex trader. A trader with good emotional intelligence will be able to make smart decisions at the right time.

Self-trust and self-confidence

Self-esteem is yet another virtue found in people with higher levels of emotional intelligence. Emotional intelligence enables a person to trust in his abilities. A Forex trader who lacks trust would hesitate to place a buy or sell order even if there is an ideal trade setup. After placing the order, the trader will not patiently wait for the price movement to begin as desired. Ultimately, the trader will exit early and lose an opportunity to generate good profits. On the other hand, a seasoned professional will ride on profits and cut down losses quickly. The maturity and confidence shown by a professional trader is an outcome of the influence of emotional intelligence.

Being assertive

Assertiveness is yet another must have trait in a Forex trader. A trader should be able to justify his actions in a soft manner, if needed, to any other market participant. He should neither be aggressive nor be too passive in his response. An aggressive mentality will create a bad impression about the trader, while too much of passiveness will make others consider the trader to be incapable. Emotional intelligence, according to studies, is primarily responsible for making a person assertive.

Empathy

Empathy indicates the ability of a person to understand the emotions of others. In the case of Forex trading, empathy also corresponds to the ability of a trader to assess the response of other market participants to a particular event or economic data. Unless a trader gauges the probable reaction of the majority of market participants, it will be difficult to take a suitable position in the market. This might end up in costly errors. Emotional intelligence nurtures the ability of a trader to understand the notions of the market and guides him to take decisions in line with the primary trend of an asset.

Improving emotional intelligence

Not everyone is born with a high level of emotional intelligence. However, the good news is that neuroplasticity or the ability of the brain to adapt to internal or external changes can be used to increase the level of emotional intelligence. Each and every neuron that connects the path between the rational and emotional centers of the brain can branch out 15,000 connections, when trained properly. This remarkable gift possessed by every human being can be used to improve the emotional intelligence. Based on this theory, we can say that a Forex trader who cultivates the discipline in trading will be able to see a remarkable increase in the level of emotional intelligence very soon. When the level of emotional intelligence increases, the skills discussed above will sharpen thereby resulting in better performance over a period of time.

Emotional intelligence plays a major part in the performance of an FX trader. The most important point to remember is that the human beings have the innate power to increase their level of emotional intelligence. A little bit of effort on the part of a trader will go a long way in nurturing the level of emotional intelligence. The increase in the level of emotional intelligence will soon begin to reflect in the trading performance.

Using Chandelier Exit in Forex Trading

Chandelier Exit is a volatility based indicator created to enable a trader to stay in a trade until there is a definite trend reversal. As explained below, a trader will be able to avoid early exit and realize maximum returns by using the Chandelier Exit indicator.

Principle and components of Chandelier Exit indicator

The indicator was created by Chuck Le Beau who is a globally acknowledged expert in exit strategies. However, the indicator and the trading system associated with it were introduced to traders and investors by Alexander Elder in his book Come Into My Trading Room published in 2002. The indicator derives its name from the resemblance to a chandelier, which hangs from the ceiling of a room.

The Chandelier Exit is based on the principle that there exists a high probability of a trend reversal whenever the price of an asset moves against the prevailing trend by a distance equal to three times the average volatility.

The indicator is created using the ATR values over a given time period. Other than the ATR, the highest high and the lowest low price of an asset over a specific time period is used in the calculation. While using the daily time frame for analysis, it is advisable to use an input period of 22. The reason is that the Forex (or equity) market remains open for 22 trading days in a month. To ensure a smoothing effect and filter short-term fluctuations or noise, the 22-day price levels is suggested for the calculation. For other timeframes, the trader should determine the suitable input period based on a trial and error approach. There are no hard and fast rules for this.

The primary objective of Chandelier Exit, as mentioned earlier, is to provide an alert about an impending trend reversal at the right time. Thus, Chandelier Exit value is calculated in a different manner for a long and short position.

In an uptrend, the Chandelier Exit values are calculated using the formula:

Long Exit = Highest High in a time period X – 3 × ATR with a period Y.

The multiplier value 3 is referred to as the Chandelier Exit multiplier and can be altered by the trader.

Most traders use the same time period for the variables X and Y, although nothing forbids a trader from using different values.

When a trader uses the same value, say 9, it means that the highest high for 9 hours (H1 timeframe) and the Average Trading Range for 9 hours are used in the calculation of the Chandelier Exit. The uniform input results in a more dependable output.

In case of a downtrend, the Chandelier Exit values are calculated using the formula,

Short Exit = Lowest Low in a time period X + 3 × ATR with a period Y.

The calculated values (intraday, daily, weekly, or monthly) are plotted as a line in the price chart. From the above formula, it can be inferred that the Chandelier Exit line will be above the price in case of a downtrend. On the other hand, the Chandelier Exit line will be below the price in case of an uptrend.

The Chandelier Exit’s multiplier can be changed after taking the implied volatility of the asset into consideration. If the time period is too small, then it may create whipsaws. On the other hand, longer time periods will delay the exits thereby diluting the purpose of the indicator. A larger multiplier is required while trading a currency pair with a higher implied volatility (the quantum of rise or fall in the price of an asset as expected by the market). In equities, it is not uncommon to see a trader using a smaller multiplier during a downtrend as the rate of price decline is usually faster. It is not the case in foreign exchange market, though, where the currencies are traded one against the other.

Using the indicator in Forex trading

The manner in which a Chandelier Exit can be used to trade in the FX market is given below.

Long position

1. Wait for a candle to close above the Chandelier Exit.
2. When the next candle opens, enter a long position in the currency pair.
3. After taking the volatility of the currency pair into consideration, place the stop-loss order a few pips below the Chandelier Exit.
4. Keep shifting the stop-loss up as the price makes new highs.
5. When the trend reverses, there will be a forced exit from the market.

Short position

1. Wait for a candle to close below the Chandelier Exit.
2. When the next candle opens, take a short position in the currency pair.
3. With due consideration to the volatility of the asset, place a stop-loss order a few pips above the Chandelier Exit.
4. Keep shifting the stop-loss down as the price makes new lows.
5. When the trend reverses, market will remove the stop and close the position.

The USD/JPY example chart below illustrates the trading strategy on H4 timeframe:

Pros

• Enables a trader to squeeze out the last possible pip out of a trade with negligible risk.
• Allows creation of advanced strategies using multiple indicators.

Cons

• Good knowledge and practical experience are required to alter the Chandelier Exit multiplier value.

Chandelier Exit, to a certain extent, can be considered as an extension of the ATR indicator. With good practice, a trader will be able to filter out erroneous signals and trade the currencies with confidence.

Selecting a Proper Forex Trading Account

Usually everyone talks about making a right choice of a broker when it comes to FX trading. This is certainly true, your choice of a broker is vital. However, selecting the most fitting trading account can be, sometimes, even more important. In this article, we are going to take a look at the main reason behind trading accounts differentiation, their regular types and main items to keep an eye on when choosing your account.

Why does the differentiation exist?

Typically, a broker prefers to design its trading accounts in a certain way, making the best services accessible only by the traders with the largest capital. Look at this as you would look at a car industry. You can easily purchase a Honda Civic for a fair amount of money, but you can also get a brand new Honda NSX for a more significant sum. In both cases, you would be driving a Honda, yet the later model is more likely to get you to your destination faster.

The same goes for FX trading accounts, when depositing $500 you will be trading with Broker XYZ. But depositing $10,000 or more with Broker XYZ will get you better conditions, nicer service and so on.

So which types of trading accounts are there?

The variety of trading accounts is solely up to the broker. There are companies that believe in “one-size-fits-all”, hence such brokers can offer one and only one account to their clients. There are also brokers that have 5 or more accounts within their offer. Below we have highlighted the main types of trading accounts that exist.

Cent accounts

These have been quite popular some time ago and they are fading now. The main idea behind cent accounts is that the deposit is calculated in US cents instead of US dollars. In other words, a cent account with a deposit level of $1000 would mean that a person has deposited only $10.

There are two main purposes for these accounts - testing of automated trading systems without committing too much funds and a simple level up from a demo account for the beginners.

The main attribute of cent accounts is simple - very low minimum deposit requirements. Typically, such accounts do not come with any extra benefits.

Platform-specific accounts

It is not always possible for a broker to integrate its payment systems so well that all of the available trading platforms extract the balance from a single ledger. This is why a broker will often have platform-specific accounts within its products.

The main feature of these accounts is the provision of your desired platform. It is quite possible to see brokers offering a specific account for MetaTrader 5 platform. However, this is not really a separate product, but rather a work-around.

Still, brokers often are more eager to let clients trade on one specific platform and, for this reason, they will be adding extra bonuses, tighter spreads or lower commissions for this software.

Conversely, a broker might want to differentiate a certain platform and make it accessible only by the professionals. This is often the case with larger brokers that set a minimum deposit of around $10,000 for the accounts that come with premium, usually in-house developed, software.

VIP accounts

Same as cent accounts, these have been quite popular but are fading now. Mostly, the brokers with a subsequent market share in Russian & CIS countries offer VIP accounts. The main idea of such account was the provision of various extra services. They could include an account manager that is available 24/7 via a dedicated phone line, lowest possible spreads and commissions, personalized analytics or even such gifts as iPads and iPhones.

A broker was starting to treat its clients as VIPs after a deposit of some $10,000-$50,000 has been made. However, most of the benefits of these accounts are not so much useful for professional traders.

Standard accounts

A broker will often have just a standard account on its offer. This account would usually come with a low minimum deposit requirement and would not contain any extras. In simple words, this accounts is nearly the same as a cent account, just the deposit is measured in dollar value.

These accounts would usually come with an average offer in terms of spreads and commissions, instant execution and a wide range of trading instruments.

Pro accounts

These types of accounts are very common among the brokers too. The main idea behind Pro accounts is to offer superior trading conditions, mostly on the currency pairs. Typically, a broker will be offering market execution (NDD, ECN) for its Pro accounts. Also, the spreads tend to be much tighter and the commissions much lower when compared to regular accounts. However, these accounts are slightly less accessible too. On average, a minimum deposit for a Pro account would begin at around $1,000.

Conclusion

Once you have chosen your broker, it is definitely a right idea to choose a proper type of a trading account. Ideally, you should look for the accounts that come without any dealing desk interference. Then, you need to figure out how much funds you are willing to deposit, as not every account will be accessible to you. For example, if you check Admiral Markets account types, you will see that two out of its three accounts are available for a deposit of $1,000 or more. Finally, check the instruments you are planning to trade and their conditions for each of the available account types.

DXY — US Dollar Index

In Forex trading, currencies are traded in pairs. The value of a currency is indicated relative to the value of another currency. Now, in the case of the US dollar index, the value of the US dollar is indicated relative to the value of a basket of currencies. The article discusses the brief history of the US dollar index (DXY), the manner in which the dollar index calculated, its variants, implications, and, finally, how it is useful to a Forex trader.

History

Until the first-half of 1971, the international monetary system was regulated by the Bretton Woods System, which is more or less a modified gold standard system that existed in the early 1940s. Under the system, the major currencies were tied to the US dollar, which was in turn pegged to the gold reserves at Fort Knox. The inherent loop holes in the system and the transition of the Europe towards the free movement of capital ultimately resulted in the collapse of the system.

In August 1971, the US President Richard Nixon unilaterally announced the discontinuation of the Bretton Woods system, as the country’s gold reserves dipped to one-third of the dollar held by other countries. The main reason for discontinuation was that it looked like France would ask for the delivery of the yellow metal in return for the US dollars. Finally, when the US dollar started floating, it paved way for other currencies to pursue a similar path.

The discontinuation of the Bretton Woods system created a need for the determination of the value of the US dollar relative to other major currencies. In 1973, the US Federal Reserve created the dollar index to track the greenback against a basket of geometrically weighted average of six currencies, namely: the euro, the Japanese yen, the British pound, the Canadian dollar, the Swedish krona, and the Swiss franc. At the time of creation of the US dollar index, the currencies of the countries that dominated the trade with the USA were used. Officially, the weightage of each of the currencies that make up the US dollar index is as follows:

• Euro (EUR) - 57.6% 
• Japanese yen (JPY) - 13.6% 
• Pound sterling (GBP) - 11.9% 
• Canadian dollar (CAD) - 9.1% 
• Swedish krona (SEK) - 4.2% 
• Swiss franc (CHF)- 3.6%

Before the euro came into existence on January 1^st, 1999, the US dollar index was made up of 10 currencies including the Deutsche mark of Germany. The arrival of the eurozone resulted in the modification or rebalancing of the currencies that makes up the DXY.  Since then no changes have been made, even though the currencies are no longer the most traded with the US dollar.

At the beginning, the value of the US dollar index was 100. Since then, it has traded at a high of 164.72 (February 1985) and at a low of 70.698 (March 2008).

Math behind the US dollar index

The formula for the calculation of the US dollar Index is as follows:

DXY = 50.14348112 × EURUSD ^-0.576 × USDJPY ^0.136 × GBPUSD ^-0.119 × USDCAD ^0.091 × USDSEK ^0.042 × USDCHF ^0.036

If the US dollar is the base currency in a pair, then the weighing coefficient is positive. On the other hand, if the US dollar is the quote currency, then the coefficient of that pair would be negative.

Interpretation

The value of the US dollar index enables a trader to understand whether the US dollar has strengthened or weakened against the basket of currencies and by how much. If the US dollar index trades at 125, then it means that the greenback has appreciated by 25% against the basket of currencies compared to the initial value. Likewise, if the US dollar index trades at 75, then it means that the greenback has depreciated by 25% against the basket of currencies. So, when the US dollar index is in a clear uptrend, a Forex trader should avoid taking a short position in the US dollar based currency pairs and vice-versa.

Trading the US dollar index

The US dollar index futures contracts are traded on the Intercontinental Exchange (ICE). The US dollar index is the most widely recognized and traded currency index. The futures contracts were first offered for trading on November 20, 1985. From September 3, 1986, the US dollar index options were made available for trading. Both futures and options are available exclusively for trading electronically on the ICE platform. The exchange symbol for the futures contract is DX (SDX for mini futures contracts) followed by the month and year code.

The quotes are updated once every 15 seconds using multiple Forex data feeds. The midpoint of the top bid/ask price is used for the calculation of the US dollar index and is passed on to different data vendors. Some of the data vendors use their own symbol. For example, Bloomberg uses the symbol DXY (commonly referred to as Dixie). Trading in the contract starts at 18:00 EST on Sunday and ends on 17:00 EST Monday. The market re-opens again at 8:00 EST and closes at 17:00 EST on Tuesday through Friday. Similar to other exchanges, the traders can place orders during the pre-open period (30 minutes before the trading/execution of orders begin). The derivative contracts enable an investor to hedge his portfolio against the volatility risk of the US dollar.  The US dollar index ICE contract is the only USD futures contract which is publicly traded in a regulated exchange and offers a transparent price discovery mechanism. Based on the personal capability, variations of the US dollar index are privately traded by the hedge funds and high net worth investors with the investment banks.

The size of the US dollar index futures contract is $1,000 times the index value. For example, if the US dollar index is trading at 96.550, then the size of the contract is $96,550. The tick size is 0.005 ($5 worth). The contracts have quarterly expiration cycle - March, June, September, and December. Daily settlement is based on the volume-weighted average price of all the transactions executed during the closing period (14:59–15:00 EST). Even though the tick size is 0.005, the settlement price is expressed in 0.001 increments.

In general, the futures contract of the US dollar index is stated to be offered by the New York Board of Trade (NYBOT), which is a subsidiary of the ICE. The DXY is also traded as ETFs and mutual fund units through various exchanges.

Trade-weighted US dollar index

In order to make the index relevant to the current economic situation, in 1998, the Federal Reserve created an alternative to the US dollar index. Firstly, there was a need to include the currencies of countries such as Brazil, China, and Mexico, which were gaining prominence in the international trade with the USA. Secondly, the arrival of the euro made it a necessity for the creation of an alternative to the existing US dollar index. The newly created index was referred by the name trade-weighted US dollar index or Broad Index.

As mentioned earlier, the index was primarily created to assess the strength of the US dollar in an accurate manner. The weightage of the currencies used in the calculation is based on the volume of imports and exports between the United States and the respective countries. The trade data is used to update the weightage of the currencies once a year. The trade-weighted US dollar index is updated once a week. It is not available for trading. The currencies that were used for the creation of a trade-weighted US dollar index and the corresponding weightage as of October 26, 2015 were as follows:

Eurozone	16.638
Canada	12.664
Japan	6.462
Mexico	12.119
China	21.562
United Kingdom	3.322
Taiwan	2.387
Korea	3.929
Singapore	1.665
Hong Kong	1.328
Malaysia	1.536
Brazil	2.052
Switzerland	1.804
Thailand	1.381
Philippines	0.572
Australia	1.23
Indonesia	1.007
India	1.991
Israel	1.01
Saudi Arabia	0.957
Russia	1.37
Sweden	0.654
Argentina	0.55
Venezuela	0.33
Chile	0.793
Columbia	0.687

Math behind the trade-weighted US dollar index

The trade-weighted US dollar index can be calculated using the nominal exchange rates (the rates provided by a Forex broker) and the real exchange rates. The formula for calculating the US dollar index using the nominal exchange rates is as follows:

 — value of index at time .

 — value of index at time .

 — number of currencies in index at time .

 — exchange rate of currency  at time .

 — exchange rate of currency  at time .

 — weight of currency  at time  and:

Before looking at the other formula, it is better to understand what a real exchange rate is. A real exchange rate takes into account the difference in the inflation rate that exists between the United States and the other country. The real exchange rate calculation is done using the prevailing Consumer Price Index (CPI) values. So, the formula for calculating the US dollar index using the real exchange rates is as follows:

 — US consumer price index at time .

 — US consumer price index at time .

 — value of the country  consumer price index at time .

 — value of the country  consumer price index at time .

Other variants

From the currency composition and the corresponding weightage, it can be easily understood that the US dollar index no longer reflects the current situation. The ICE also charges a considerable amount for the real-time and delayed quote feed.

Furthermore, the weighted geometric mean used for the calculation of the US dollar index makes it costlier for the market makers. Moreover, the US dollar index chart looks more or less like an inverted euro dollar chart. Finally, the difference in weightage means that the euro’s impact on the US dollar index is larger than other currencies, even though it may not be the case always (for example, another round of monetary easing by the ECB and BoJ will not create a similar impact on the value of the US dollar index).

Considering the above mentioned disadvantages, the Dow Jones and FXCM created the DJ FXCM Dollar Index. The DJ FXCM Dollar Index is made up of four major currencies – the euro, the yen, the aussie, and the pound. Each of the four currencies is given a 25% weightage. The system enables a trader to perfectly track a position in one of the four currencies with relative ease by simply watching the DJ FXCM Dollar Index. The index can be traded on the trading platform offered by the Forex broker FXCM.

Conclusion

The US dollar index can be used as a quick reference guide to assess the strength of the US dollar against the rival currencies. However, considering the huge investment required, it is arguably suited only for large traders. Still, it is worth to check out the index chart before entering into a trade as it will assist in avoiding wrong entries.

10 Drawbacks of Harmonic Pattern Trading

The price of any asset traded in a financial market moves in cycles. The cycles tend to repeat themselves and form geometric patterns. Studies revealed that the legs, which form these unique geometric patterns, are related to each other through Fibonacci ratios. Each of these patterns is referred by a name, usually that of an animal, based on their appearance in a chart. Since these patterns develop naturally, they are referred to as harmonic patterns.

Harmonic patterns enable a trader to identify the price level at which the trend of an asset can probably undergo a reversal. Thus, it gives early entry advantage to a trader as long as the forecast turns out to be true. However, similar to any other trading system, harmonic pattern has its own share of disadvantages. This article discusses the most important drawbacks of harmonic pattern trading.

1. Too many patterns

The legs that make up the harmonic pattern share a particular Fibonacci ratio with each other. If there is only a single pattern, then a trader may be able to remember the ratios. On the contrary, there are at least half a dozen harmonic patterns (Bat, Butterfly, Crab, AB=CD, Gartley, etc.) Thus, it becomes difficult for a trader to study, remember, and identify those patterns without using specialized software or indicators. Additionally, the trader will find it difficult to spot the harmonic pattern that not only has a high probability of success but also offers admirable gains.

2. Contradicting signals

It is the most common problem faced by beginners. Harmonic patterns, which develop in different timeframes, may show conflicting signals. We may see a bullish and bearish pattern in two immediate timeframes. This may create confusion in the minds of a trader. The USD/JPY chart below shows a bearish total harmonic pattern in the 15 minute timeframe and bullish shark harmonic pattern in the 30 minute timeframe. In such circumstances only prior trading experience will enable a trader to assess the situation and take a proper trading decision. Mere knowledge of harmonic pattern will not be sufficient:

USD/JPY - Bearish Total harmonic pattern on M15 timeframe.
USD/JPY - Bullish Shark harmonic pattern on M30 timeframe.

3. Higher chances of hitting stop-loss

Traders who piously follow the rules of harmonic pattern trading would vouch for its precise entry and stop-loss levels. However, it can be understood that the entry and stop-loss rules are prone to easy manipulation by major players and can become a major drawback. In a Forex market, a few more pips deeper into the Potential Reversal Zone (PRZ) would be more than sufficient to trigger the stop-loss orders quite easily during volatile periods.

4. Predicting extensions

Even though harmonic patterns are generally perceived to have a fixed set of trading rules, it is not the case always. In several harmonic patterns, the legs that make up a pattern can have extensions. For example, in a simple alternative AB=CD pattern, the length of the leg CD can be either 1.27 or 1.618 times the length of the AB leg. In such circumstances, seasoned professionals calculate the probable length of the CD leg by studying the BC leg. It is needless to say that only experience can teach those techniques to a trader thereby liquidating the whole concept of making smart decisions simply by learning the harmonic patterns.

5. Timeframe

Harmonic patterns only deal with ratio between price swings. It does not speak anything about the timeframe to choose or the time needed to achieve or violate a particular pattern. Furthermore, harmonic patterns are mostly used by swing traders. The harmonic pattern trading is not suited for short-term timeframes and day trading in general.

6. Purely technical

Harmonic patterns are based on the assumption that human beings tend to repeat their past behavior even without their own awareness. If the fundamentals of an asset change in a drastic manner, then it is certain that the pattern will fail. A professional currency trader should certainly give importance to the fundamentals which strengthen or weaken a currency. When a large number of traders place a buy or sell order just because a pattern indicates a reversal at a particular point, then it becomes a self-fulfilling prophecy. A smart fund manager can easily take away their stops in no time. While there is no denial that short-term fluctuations cannot be explained always through economic data, still, placing a buy or sell order purely based on a harmonic pattern is certainly not a smart decision.

7. Pattern can morph into another

There is no guarantee that a harmonic pattern may complete as expected. One of the legs can extend thereby resulting in a failure of the pattern. Furthermore, the pattern can also morph into another pattern. Let us assume that a Gartley pattern is developing in the price chart. For a perfect Gartley pattern, the leg AB should be equal to the leg CD. However, the slope of the CD may not be equal to that of AB. Let the recent swing high be represented by X. Then, for a harmonic Gartley pattern, the point B and point D should not exceed X, while the point C should not exceed A.   If the point D exceeds X, then the pattern becomes a failure. Additionally, the pattern can morph into a Butterfly harmonic pattern. Such a possibility will keep a beginner trader in dilemma.

8. Issues with Potential Reversal Zone (PRZ)

There PRZ of certain harmonic patterns is made up of a culmination of several Fibonacci ratios. The issue is that the levels indicated by the Fibonacci ratios may be spread over 50 pips or more. For example, the ratios that make up the PRZ in a Gartley pattern are 0.786 XA, 1.27 BC, and 1.618 BC. Furthermore, the level where AB=CD may also end up in the PRZ.  Thus, it is not possible to place an order straight away and wait for the price to reach the PRZ. A retail trader has to constantly monitor for the formation of higher lows or lower highs to enter a long or short position. This makes the harmonic pattern based trading a complex process.

9. Clumsy charts

The price chart will have a clumsy look whenever a harmonic pattern indicator is attached to the chart. Seasoned traders always advise beginners to have a clean price chart so that support and resistance levels can be clearly seen. Having numerous lines on the price chart can divert a trader’s focus from important levels.

Too much chart noise due to harmonic pattern markup.

10. No dearth of new patterns

There is no dearth of claims of new harmonic patterns in the internet. Nearly all of them vary only in a minor manner from the six main harmonic patterns. In fact, such claims add to the complexity of trading the harmonic patterns further.

There is no doubt that harmonic patterns offer a degree of advantage to a trader. Still, practical experience and sticking to the rules, as proven by Turtle traders, is by far the most important to succeed in trading.

Spread Betting vs. Forex Trading

Differences Between Spread Betting and Forex Trading

While some people think that spread betting and Forex trading are very similar, in fact there are a number of important differences between the two that need to be understood. Perhaps the most important difference between the two types of transactions is that spread betting is recognised as a form of gambling under the law of the United Kingdom while Forex trading is officially recognised as a form of speculative investment. Although there are many similarities between the two thing, the official gambling status of spread betting means that there are tax implications that stand to benefit the investor.

Tax Free Profits

When dealing in any form of official financial speculation, such as Forex trading, the investor must pay tax on their profits. Although these sums may seem small on each transaction, they will eventually add up and for the serious trader can end up being a large amount at the end of the year. Spread betting is a little different as the trader never purchases any kind of futures contract but is instead placing a wager as to which way they believe the market is going to move. As there is no physical sale or purchase and because spread betting is officially gambling under UK law, this means that there is no Stamp Duty or Capital Gains Tax to pay on any profits and this results in the investor being permitted to keep 100% of the money that they have earned. This obviously is very attractive to the investor and substantially benefits traders who choose this type of transaction. The tax exemption only works if spread betting is not the main source of income for a person.

Commission

In spread betting, there is no commission to pay on any transaction as the spread betting provider makes their profit from the difference between the bid and the ask prices. This is also the case with spot Forex, as the brokers typically charge commissions only on their Electronic-Communication-Network (ECN) accounts. Similar to spread betting, spot Forex transactions are monetized by the spread markup.

Breadth of Markets

While Forex trading is specifically referring to the trading of currency pairs to make profit, spread betting in its widest form allows instant access to more than 12,000 worldwide financial markets from shares to commodities. It also even offers investors the opportunity of accessing unusual markets such as house prices, sporting events, or even political events. Of course, for those who prefer to trade in currency pairs, this can also be done through spread betting.

Islamic Law

One important difference between spread betting and Forex trading is that spread betting is considered to be a form of gambling, and therefore is not acceptable under Muslim laws. Forex trading, on the other hand, can be carried out under Islamic law and most brokers offer the opportunity for Muslim traders to open a special Islamic account to enable them to take advantage of this type of trading.

Legality

Spread betting has a smaller geographical coverage, this is for certain. It is, perhaps, most widespread in the UK and Ireland, but it also gets quite some traction in Canada. However, spread betting is banned nationwide in the country where it was invented - the United States. There are a few reasons for this, the main one is, of course, its biggest advantage – tax-free profits. Next to the USA, there are a few more countries where Forex trading is allowed but spread betting is banned. One of such examples is Japan, a country where online betting is only allowed for for lottery, soccer toto, and public sport. Other countries, like Australia, have recently allowed spread betting, but it does not come with tax exemptions. Typically, spread betting will always be illegal in the countries that prohibit online gambling and betting.

Similarities of Forex Trading and Spread Betting

While there are several differences between the two types of financial transaction, there are a number of similarities too between Forex trading and spread betting.

Leverage

Both Forex trading and spread betting are leveraged products, meaning that the investor is only required to place a small amount of the entire value of their position. Investors must remember, however, that their exposure will be much greater than the amount outlaid, and while leverage offers the potential to make bigger gains, it also means that there is a much greater potential for big losses if the markets do not move according to expectations. Spread betting providers may offer higher leverages than Forex brokers and, while this can be good news for the experienced investor, it can also lead to financial trouble for those who have a poor understanding of how leverage works and insufficient knowledge to know how to use it properly.

Platforms

Spread betting and Forex trading are carried out on the same trading platforms using the same interfaces. This means that both are equally easy to do as the interfaces are user-friendly and designed to accommodate the needs of traders both experienced and novice. Many brokers offer both Forex trading and spread betting on their websites meaning that it is easy for investors to try their hand at both types of investment without having to register with another site.

Profiting in a Falling Market

Both Forex trading and spread betting allow the trader to profit in any type of market, whether it is rising or falling. In the case of spread betting, a trader only predicts whether they think the market for their chosen asset will rise or fall, so it makes no difference what moves the market actually makes as long as their prediction turns out to be correct. Similarly, in Forex trading, it is possible to make a profit whether the market goes up or down depending on whether the investor chooses to buy or sell.

Should a Trader Choose Spread Betting Over Forex Trading?

While Forex trading is considered to be a serious form of financial transaction and is officially a type of speculative investment, spread betting does not enjoy the same reputation. Officially a type of gambling, those who are looking for a serious investment may not wish to consider spread betting. However, there are excellent financial reasons for doing so. Spread betting offers spreads which are similar to those offered by Forex brokers, however the key difference is the tax which is levied on it. Many traders prefer spread betting over traditional Forex trading as they believe that there is no benefit in using an FX broker if the spread offered is the same as that offered through a spread betting provider. This is because in the Forex transaction they would be obliged to pay tax on their earnings, whereas during spread betting, there is no tax obligation to be paid.

Which Is Better? Forex Trading or Spread Betting?

It is difficult to say which of the two trading types are better, and there are different circumstances in which each would be the best choice. An important point to consider is that not every top Forex broker will offer spread betting to its clients in the first place. The advantage of Forex trading over spread betting includes its compliance with Islamic law, which is an obvious benefit for Muslim investors, as well as its recognition as a reputable and serious form of investment, however spread betting has the edge financially, because of its tax implications. The attraction of having no Capital Gains or Stamp Duty taxes to pay on profits often draws in increasing numbers of UK investors.