What Is Expected In the Forex Market in 2021?
It is no exaggeration to state that the year 2020 was like no other in recent memory. The corona pandemic caused severe downturns in major economies across the world and had a major impact on the global financial markets. One might have assumed that such economic distress would boost safe-haven currencies like the US dollar, while risk currencies would have depreciated. In fact, the opposite happened, as minor currencies like the Australian and New Zealand dollars made sharp gains against the struggling US dollar in 2020. This confounded many experts, who were surprised with the sharp depreciation of the US dollar last year. It turns out that despite the economic toll caused by Covid-19, investor risk sentiment remained at fairly high levels.
One key lesson when you learn to trade forex is to avoid becoming locked into expectations of what direction the forex market should take. Instead, focus on taking advantage of trading opportunities when they arise. At the same time, there are some general trends that are useful in helping traders plan a trading strategy for 2021.
Covid-19 has been in the headlines day after day for months, and the attention of traders in 2020 was on the pandemic, which often overshadowed fundamental releases, which traditionally are market-movers. In 2021, with the roll-out of Covid vaccines and the expectation that the global economy will bounce back, we can expect traders and investors to focus once again on the fundamentals, once Covid-19 becomes contained. This means that key events such as GDP, employment, inflation and consumer spending will likely have a significant impact on the movement of currencies.
- US Dollar
The US dollar is the most traded currency, so traders should constantly monitor developments in the US economy. Of course, there is no crystal ball as to how the US dollar will perform in 2021, but there are some key developments which are worth monitoring.First, the election of Joe Biden and the Democrats’ control of the US Congress means that more stimulus is on the way. This means massive amounts of US dollars being injected into the US economy, and the huge new supply of dollars could send the currency lower. Second, the Federal Reserve has been very dovish in its monetary policy, keeping interest rates close to zero. This policy makes the US dollar less attractive to investors, who are always looking for a better rate of return on their assets.Second, we are already seeing a strong recovery in China, the world’s second-largest economy. If the global economy finds its footing in 2021, this will increase risk appetite, with investors willing to move away from the safety of the US dollar into riskier currencies, such as the Australian, New Zealand and Canadian dollars. A global recovery would also be positive news for the euro and British pound, which would benefit from an increase in exports.On the other hand, one should keep in mind that the US economy is bound to improve as well, which could lift the US dollar. As well, geopolitical hotspots such as Iran, the Middle East or Russia could escalate during the year, which could boost the safe-haven US dollar.
Which forex pair trend is best?
In previous posts, we have discussed the importance of having a trading strategy in place before you actually begin to execute live forex trades. A trading strategy should always include the ability to identify forex trends, which is a type of trading opportunity.
You may or may not wish to approach the market as a ‘trend trader’, but it is always a good idea to be able to spot a trend which could represent a trading opportunity.
A trend is the overall general direction of an asset price – in our case, the direction of a currency pair. As in any financial markets, the forex market will exhibit uptrends and downtrends and traders are always looking to identify strong trends and make a profit. There are also side trends which means that the pair is moving sideways. Unless you have reason to believe that the pair will break out and move either up or down, the likelihood of profiting when a currency is in a side trend is limited.
An overall increase in the price of a currency pair indicates an uptrend. However, keep in mind that an uptrend does not mean that there are no movements and that the path of the pair is solely upwards – as long as the overall direction is higher, that is considered an uptrend The same concept applies to a downtrend – the overall direction is moving lower, although there are upward movements along the way. Bottom line – when trying to identify a trend, don’t be fooled by the ‘ups and downs’ along the way.
The chart below illustrates a downtrend. We see that although there were some movements upwards, the overall direction of the pair is downwards, marked by lower highs and lower lows.
In this chart, the time period of the downtrend is quite long, as it extends over a period of years. A trader could also choose a much shorter trend period, such as weeks, days, or even minutes. It may be well worth the time to practice on a demo account and seeing which time periods give you the most success as you look for trading opportunities. These can then be adapted to your trading strategy when you trade on the live market.
What pairs are best for identifying trends? There is no simple answer, of course. It would be advisable to stick with the most popular currency pairs and practice identifying trends. EUR/USD and USD/JPY are excellent pairs to trade for novice or “lower risk” traders, as generally they are not too volatile, and usually set out “smooth” trends. Currencies with more volatility offer greater opportunities to profit, but also entail more risk. These would include currencies such as the Australian and New Zealand dollars and exotic currencies.
Types of Forex Opportunities
As we have mentioned, in order to trade forex successfully, the name of the game is to spot a trading opportunity. Just as each trader needs to develop their own trading strategy which suits them, so too will the trader need to choose and define what trading opportunity they are looking for, and then take advantage of the opportunity and make a profit. Let’s look at a few examples of the best trading opportunities:
- Reversal Trading
A market reversal is a change in the price direction of the currency pair. In the case of an uptrend, a reversal would mean that the price moves to the downside. Similarly, a reversal after a downtrend would be to the upside. The trader is trying to detect the change in the overall direction of the trend (rather than a minor change in direction during the trend) and take a position that is the reverse of the current trend. The challenge and opportunity in reversal trading is to successfully distinguish a reversal in the trend, also known as divergence, from a minor counter-move during the trend.
- Chart patterns
Forex charts are an essential tool for all forex traders. There is a wealth of information contained in charts, and it is important that you gain a good understanding of the patterns formed by the movement of currency pairs. The better your knowledge of chart patterns, the more trading opportunities you will be able to identify.
- Support and resistance levels
Support levels can be viewed as the floor price of an asset, while resistance levels act as the ceiling price. Support and resistance lines change frequently, and the ability to identify a support level can also be a buying opportunity since this is the level where market participants will push prices higher. Conversely, if you identify a resistance level, the price may well go down, so this would be a selling opportunity. As you become more familiar with the movement of the currency pair you are trading, you will be better able to spot support and resistance lines. As well, there are websites which provide this information, ranging from hourly to monthly time frames.
Number of opportunities
These are examples of some of the most popular methods to identify and capitalize on forex trading opportunities. For example, a reverse in the trend may be quite infrequent. It may be helpful to treat opportunities as a detective who is carefully and patiently looking for clues. There is no set number of opportunities you will see in a given time frame, but as you become more familiar with the movement of the market, you will better be able to identify trading opportunities.
A useful rule of thumb to keep in mind is the 80-20 Rule. This means that 80% of the market movement is sideways, with corrections to the current trend. The remaining 20% of market moves is where trading opportunities will show themselves. The 80-20 Rule is an important reminder that you will not see a trading opportunity every time, so patience is a valuable virtue when trading!
In order to trade forex successfully, a trader needs to develop a trading strategy which will identify trading opportunities. This requires a strong understanding of the movement of currencies and the willingness to show patience until a trading opportunity comes along.
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