Simple method to select trending currencies for trading
Long the strongest short the weakest
If you are just learning to trade forex and you don’t know which currency pair to trade, this is a fairly simple method to help you: go long the strongest currency while concurrently going short the weakest. It is a method to ride an existing trend. It can be personalised according to each individual’s trading time frame but I am covering the usage on daily chart only.
The method brings out trending pairs but it does not predict new trends.
Step #1 – Find a relative performance chart
Get a chart that shows relative performance of currencies expressed against USD. There is a fairly simple one from finviz.com.
This chart shows the gains of major currencies against USD. The currency that gains the most is the strongest and the currency that loses the most is the weakest. Gain/loss depends on time frame that is usually expressed as day, week, month, quarter, half year, year or year-to-date (YTD). These are calendar intervals that we are well-acquainted with and also used for financial reporting. I prefer YTD but intervals like month or quarter are also fine. The time frame selected can be personalised according to one’s trading plan. For example, an individual doing intraday trading based on momentum may choose to look at daily or weekly performance only.
At the moment, NZD is the strongest currency while EUR is the weakest. Since USD is the denominator, it is at zero at all times.
Step #2 – Pair the strongest performing currency with the weakest
Look at both ends of the spectrum and grab the last currency on each end. We want to buy NZD (the best performer) and sell EUR (worst performer) concurrently. This points out EURNZD as the currency pair to go short.
- Relative performance tells us to short EURNZD; this observation is backed up by daily chart of the pair which shows that indeed it has been trending down.
- Quick calculation shows that the pair has moved 7.03% in NZD’s favour since the beginning of the year so the number is just about right if we add 5.34% (NZD) and 1.91% (EUR). There is a decimal error probably because of the time difference (and therefore price difference) between the two charts.
Is there a wider selection of currencies? How about crosses?
This chart from barchart.com shows a wider selection. As a simple guide, look again for the top winner and loser. USD is strongest against RUB but weakest against BRL.
Strategy: Long BRLRUB. For barchart.com interactive chart, go here.
Adaptation for short term trading
For short term traders who are doing intraday, look at relative performance for 1 day. The intention is to identify a pair that was trending in the last 24-hours and is likely able to retain that momentum.
Swing traders looking for week-week swings can look at relative performance for 1 week.