The six distinctive forex trader types you need to know about when trading the forex market. Forex marketplace being the largest, the most liquid and the most leveraged financial Market is the place where forex trader types from all walks of life meet and compete with each other on a daily basis.
These speculators/traders utilize various trading strategies, all trying to predict the outcome of their bets. Employing different types of software along with using proprietary trading techniques, became the norm of their trading lives.
What are the different types of traders
Truth be told, there are six different types of traders, and each requires a unique speculative process. It doesn’t matter if you prefer to trade for the income or for the capital growth purposes, choosing the right trading style will definitely improve your chance of success.
However, first you need to know about these forex trader types to actually associate yourself with either one of them.
Day traders are buying or selling the financial instrument on the same day. Meaning, they will not hold their open trades overnight, when markets are closed. Their holding period varies from minutes, up to hours, but the closing has to happen within the very same day.
Day trading profits are closely related, or should I say, affected by the bid/ask spreads. The tighter the spreads are, the more successful is the trade, because every price increment that goes is in your favor, contributes to the overall positive outcome.
Second in line is the broker’s commission structure that also affects the bottom line.
The lower the expenses, the more profitable are the trades.
Day traders are often portrayed as a group of traders that makes lots of money very quickly.
They are sort of “Trading Gods” of the Industry. That is very far from being the truth…
Imagine, sometimes you have to make several trades during the day just to break even. It is a very intense trading approach that requires lots of screen time and is very energy consuming.
Hence, the day-traders may endure several financial losses in the beginning of their career, which often affects their mental state in a very destructive way. That is why, if you decide to start from this approach, you may never even reach a profitable stage.
Also, most of the day trading involves the use of leverage (borrowing money from a broker) to increase the returns. Because of that, day traders have to have an enormous discipline to hold up against the sudden market moves that may result in larger than expected losses.
Check out common Day-trading Mistakes:
Scalpers are “scavengers” of the trading world. They make tiny profits repeatedly from the smallest market moves. Traders that use this type of market approach usually implement various short term strategies where the trades could last minutes and even seconds.
Basically, you are trying to capitalize on smallest price fluctuations, going long (buying) or going short (selling) one or multiple financial instruments simultaneously.
Scalpers may put anywhere from a few to multitude of dozen trades in the same day. Since they are opening and closing their trades before the market close, they are also considered to be in the “Day-trading” category.
Now, scalping is even more stressful than the day-trading, because whatever you’re required to have as a day-trader, on top of that, you’re also required to be very skilled in recognizing rapid momentum changes.
Both scalpers and day-traders are known to be an Intra-day speculator. Bottom line, scalping is the next level of the Day-Trading field, because it requires quick-thinking, lightning reaction, an enormous concentration.
Algo Trader or “The Quant”
Algo-trading, also known as the Quantitative trading requires the use of sophisticated computer programs that place trades within milliseconds, that is a thousandth of a second, to profit in the Financial markets.
The term is additionally used to describe the High Frequency Trading (HFT). Although, it is a part of the Algorithmic trading, the HFT’s completely rely on non-human interaction. While the Quants, on the other hand, may use semi-algorithmic approach to trade the markets.
As the name implies, algo-trading is for the people who are OK with making use of technology, and allow machines to take over their trading.
The Quants are data driven individuals and usually are the math geeks, or have an engineering background. These types of traders are very logical, looking for ways to minimize the emotional impact in trading.
Position Trader (Macro Trader)
Position trader also referred to as a Macro trader is a long-term market player. Why – Macro? Because, these speculators are driven by the local or the Global Macro Economic events. Mostly these types of traders are Trend originators and Trend followers. Meaning, they have the means and the resources to create long-lasting trends.
In general, they fall into the group known as “The Big-Boys.” Position traders hold their open trades for weeks to months, sometimes even years. Hence, they are not affected by the Intra-day volatility – the sudden market moves.
They have long-term Investment horizons than your average market participant. Because of that, they are able to achieve smoother profit curves, but at the same time, they have smaller overall returns over the aggressive trader types.
Swing Trader (Medium-Term Trader)
Swing trading is a style of trading that is geared towards capturing smaller trends, as opposed to the position traders. Their holding period could last for a day, and up to a week. These types of traders are not keen on fundamentals.
They are rigorous practitioners of Technical analysis, and mostly use patterns in their decision-making. Basically, they use technical analysis tools to help them formulate trading ideas.
Given that their holding period is much shorter that of position speculators and much longer that of Intra-day traders, I may say, this is the perfect style for the people that want to be more active in the markets, but at the same time don’t want to be involved in day-to-day speculative craziness.
News Trader, Volatility-Trader (Micro Trader)
News trader, also known as an event-driven trader prefers to fully take advantage of economic news releases that directly affect the currency prices. These types of speculators know exactly what news events or political developments are in correlation to drive the currencies directionally.
Usually, these traders are in and out of their positions when a particular news event or a certain political situation is being played out. However, they might hold their open trades much longer, if the event is in alignment with the position. Hence, some of the short-term news trades might become swing trades, or even transform into the long-term speculations.
Just to name the few events: Employment figures, Retail sales, Consumer Price Index, Manufacturing numbers, Elections, etc. One thing to mention, for this type of trading you’ve got to have a reliable and a very high-speed news source, because in this case, every second counts!
What is the best method to trade forex
Honestly, there is no definitive answer to this question, and here is why… What works for one trader doesn’t mean it will work for the other. It is up to the trader to determine his or her trading style based on their own psychological profile.
Some people prefer Intra-day trading because it suits their profile. They are naturally good under pressure, they are quick on their feet, and they adapt to market speed very naturally. Others prefer slower speeds, they are more analytical type, need more time to process information, need more time to “put all their ducks in a row.”
One of the key factors to consider is the time-period of your trading style. This all means that you need work from your end, first. You need to consider your personality and find the method that will fit, as the glove fits the hand, your profile – a perfect match.
Gladly, there are thousands of trading strategies to choose from, meaning you don’t have to come up with the unique one. The road has been paved for us by the traders that came before us, so all you have to do is do some poking and find the one that fits. Mainly though, all these strategies stem from one of the three trading approaches described below:
Trend following is the simplest and the most popular way of speculating in the markets. It implies following the dominant market tendency; buying the financial instrument when it breaks through a major supply area in the up-trending conditions, and selling a major demand zone in the down-trending conditions.
In a nutshell, you simply follow the dominant trends when they have been already established for some time, and not when they are in a development stage.
This can be possible when we have strong and prolonged trending conditions fueled by the Government (Fiscal & Monetary politics) or by the Central Bank Interventions (Rate adjustments, changes in currency Supply/Demand levels).
Trend following speculators, usually are the long-term traders because they have to stay with the trend for a long time. However, “simply” doesn’t mean easy!
For the trend-followers, increase in Volatility is the most devastating market occurrence. Imagine staying with the trend for several months, and enduring several market corrections against the dominant trend.
When markets are volatile, it becomes harder to believe in, and stay longer with the Trends. It takes a special mindset and an enormous amount of discipline to overcome these hurdles.
Counter-trend methods, on the other hand, are trying to capitalize on the very same Volatility.
As the name implies, you are trading against the dominant tendency, catching these volatile corrections.
Counter-trend trading depends on the statistical fact that price breakouts do not always evolve into mature Trends.
Hence, a trader that uses this market approach, in essence, is trying to capitalize on the market retrace from the historic highs or lows. Usually, the counter-trend speculator will look for the major historic point of reference, to lean against it, in a hope of price bouncing from the level.
These traders commonly use support/resistance and supply/demand levels in their market analysis. Keeping up with economic releases is also very popular among counter-trend traders, as they are a great source of the above mentioned Volatility. Volatile market environment, offers an ideal situation to profit from the market swings.
For example, if the market has been trending for a prolonged time, then when the volatility picks up at the highs or the lows of the move it can lead to a “panic selling” in the up-trends, and a panic closing of short positions (corrective up-swings) in the down-trends.
Therefore, monitoring the market phases to catch that momentum shift, for the counter-trend trader is more crucial than for the other market players.
The Market-neutral approach is geared towards avoiding some form of Market risk. This is done either by hedging the risk with other financial instrument in a different sector, or involves hedging the underlying financial contract with the use of common derivatives: options, forwards, swaps etc.
Market-neutral trading involves profiting from the market while it goes through different conditions. Whether the market goes up, goes down, goes sideways, the market-neutral strategies are geared towards either to offset the risk or even able to deliver positive returns.
For example, in Forex, you might be buying the British pound vs the US Dollar (GBP/USD) months before the Brexit, knowing that the closer you get to the vote, the more volatility will be expected. It might even be increased tenfold.
Hence, you hedge your exposure in the Options market by purchasing the put options contracts for the British pound to mitigate your risk.
The Market-neutral approach is also known as the Delta-neutral trading, where you’re trying to eliminate directional risk. Delta in financial markets represents direction, hence delta-neutral strategies, in essence, are directionless strategies.
You don’t care which way the market swings, either way, you make positive returns.
The logic behind it is this, you have to find two or more, positively correlated or negatively correlated trading instruments. For example, in the spot Forex market, we have positively correlated EUR/USD & GBP/USD trading instruments. The correlation is not 100%, but it gets very close, in certain market conditions.
Especially, during the major European-economic announcements. In such moments, delta-neutral traders will buy the EUR/USD pair and sell the GBP/USD pair, hoping that the win on one pair will offset the loss of the other, at some point in time. They are eliminating the directional risk, as they do not want to care which way the market swings after the actual vote.
Yes, you’re going to have a negative balance on one pair, and a positive return on the other.
The whole trick is, during a certain moment in time these two open trades will generate a positive balance in total. Once this happens, a trader needs to close both trades simultaneously to book the positive return.
Usually, this is done by the Algorithmic software, because this can happen very quickly, literally in seconds, for the humans to process and react. Now, for the negatively correlated pairs such as the USD/CAD & the CAD/JPY, better yet the EUR/USD versus the USD/CHF you simply buy both or sell both of the instruments. This type of trading is the form of statistical arbitrage.
The bottom line, the expression “delta-neutral” relates to a strategic trading method which intends to reduce directional exposure for hedging purposes or for capitalizing on increased volatility.
Here is the video explaining this concept in detail, whatever goes for the Stocks/Indices can be applied to the Currencies:
Here is the Inter-market Correlation Matrix:
How to Find Your Trading Approach
Well, to answer this question we would need to go to the basics of finding anything in our lives.
We would need to try different trading approaches, test numerous trading strategies, then get the feedback by answering the following basic questions:
What are my trading goals?
(Am I doing this for a part-time cash flow, for an Income substitute or just want to build Wealth year, after year…)
What is my time availability?
(Can I trade the European or the US session… maybe both…)
How do I feel about trading the long-term/short-term charts?
(Are long-term charts too slow for me…)
(How about the shorter time-frame speed, does it affect my mind…)
Is Technical trading, all that I need?
Am I better at trading with indicators?
You may fill in the blanks for yourself.
The list could go on, and on… and on…
These are the types of questions you’ll want to ask yourself to find out of what you really like, stay with it, and make it work.
I mean, there are hundreds of questions we can ask ourselves to narrow down the trading approach that will fit our personality, will fit our availability and will fit our ability.
I can’t emphasize enough, if the trading approach doesn’t feel natural, doesn’t feel right for you, then most probably it is not going to work!
You basically have to keep searching and testing until you find something that fits you.
And yes, it may take years and years of trials and errors before you crystallize into a successful trader. This is the main reason why Trading takes such a long time to master.
It is amazing, how people just jump into speculating without knowing their psychological profile, without proper education and without a substantial amount of screen time.
If something doesn’t work for you, how do you tackle the problem? Maybe you need to do some back testing of your trading strategy. You’ll be surprised to find out the things that need just few little tweaks, to become finally profitable.
Maybe you need to change the trading time frame, or trade specific forex sessions.
Maybe, consider adopting new methods. Choose two, maximum three and do some serious back testing. After you’ve narrowed, do forward testing in real time (about 30 trades max.), to see how the method is holding up in a real trading environment.
I know lots of traders that have adopted a trading style just on the basis of profitability. Heck, even I went through the same experience. Meaning, they have stuck with the method for so long, trying to make it work just because it has produced spectacular results for the other traders. Little did they know, it never matched their “trading spirit.”
Also, read: BUSTING THE MYTH OF A FOREX MARKET MAKER
The Forex marketplace is the home to many trading approaches and various trading styles. However, when looking at it with the “bird’s eye view,” these trading approaches & trading strategies mainly fall into most prevalent categories: short-term trader, medium-term trader, long-term market player.
Furthermore, all these categories with all their methods and their strategies stem from the three basic market approaches: Trend-trading, Counter-trend trading, and the Market-neutral speculations.
Choosing the right trading approach, then accordingly, the right trading style that fits your psychological profile is even more crucial to the aspiring forex speculator than, just choosing the right trading time-frame or the right trading instrument.
There is a number of unique elements within these classified groups that could contribute to one’s bottom line success. Each and every speculator will have to consider some of these crucial fundamental factors that impact trading on a personal level.