What is the 5-3-1 Rule in Forex and How to Use it
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Breaking down the 5-3-1 Forex Trading Strategy
Besides the 5 3 1 trading rule, you must understand why forex trades are more preferred in the global platform, any specific advantages?.
Why is it significant to apply risk management in the high volatility currency markets?
Forex experts have derived simple guidelines for beginners in the Forex Markets, stating, begin a trade plan adopting 5-3-1 trading strategy.
5 refers to five currency pairs to learn and trade. You must choose your 5 pairs like, AUD/USD, AUD/NZD, EUR/AUD, GBP/AUD, and AUD/JPY.
3 refers to the adoption of three strategies in your trade plan and apply the technical indicators for the three strategies only.
1 refers to the trade one time, maintaining the same time, every day.
Advantages of the Forex Markets:
The forex market operates 24 by 7 and you can enter any time and mostly it offers liquidity thus opening the door for currency trading all time.
You must be alert in logging the trading account on schedules. Otherwise, you may miss the available opportunities or face the markets that are not in your favor.
You must identify the most active period of your chosen currency pairs and then proceed to trade in.
Employ Risk Management Techniques:
5-3-1 trading strategy is applied in the Forex markets and with the high degree of market volatility, you are advised to cover your risks by implementing the risk management techniques.
Forex markets maintain a high volatility due to the global participation of currencies, you will observe a rapid variation in the currency evaluations.
You may adopt the best time and tested trading strategy still there is a probability of incurring risks in the currency markets. You might encounter the market moving in a direction opposite to your trade plans and the market risk is bound to prevail.
None of the five currency pairs can enter or exit at your desired price for having low liquidity found even in one of the currency pairs. In Forex trading, liquidity plays a major risk and can stand hurdle to enter/exit at your chosen prices. Therefore, Liquidity risk can swarm the trades due to currency volatility and high buying/selling in the trading sessions.
During the trading sessions, your selection of order placement can happen on a wrong currency pair, it can be an outcome of erroneous triggers in the trading processes. You can incur loss in such circumstances therefore avoiding an operational risk is also inevitable.
Taking leverage support to raise the profit zone beyond a tolerance can lead to a loss thereby adding an additional burden on your trading capital. Therefore, Leverage risk should be managed carefully to avoid financial debts.
Forex trading is highly volatile and a mismanagement of your trade plan for reasons like emotional breakdown can pull down your trading capital. Therefore, you must set a control on your psychological factors and control psychological risk.
What is the 5-3-1 Strategy in Forex Trading
Functionally, this 5 3 1 rule in trading applies to the investors/traders planning to execute their trade plan in the currency trading, known as Forex Trading.
Are you keen to join such a bandwagon? Then continue to read till the end of the page for better understanding of the forex trade methodology.
Experts say the methodology is simple: Pick five pairs of currencies, adopt three strategies, and trade at the same time every day.
Five pairs have been classified as major pairs, minor pairs, exotic pairs.
Select the three best strategies to decide upon the entry and exit positions of the trade plan.
For selection of the time to trade, choose the time domain where stock markets working hours overlap that refer to your selected currency pairs.
To elaborate the three currency pairs, major pairs, minor pairs, and exotic pairs.
Major pairs are the combination of the US dollar with another currency from a developed nation. It can be USD+EUR, USD+AUD, etc. The basic advantage of such major pairs is they form the top notch in terms of the trade volumes.
Minor pairs are the combination of two developed countries excluding the USA, such as, Pound EURO, GBP+EUR, etc. In the stock trading, minor pairs do experience small liquidity, and the trades are wide spread hence they tend to become riskier than Major pair trades.
Exotic pairs do include one major currency and another from the emerging economies, such as India, Thailand, South Africa, etc. Investors can observe very little liquidity ( unstable) and thus imprint the presence of high risks.
An investor can define three strategies to execute a trade plan. The most convenient strategies are Breakout strategy, chart pattern strategy, and trend following strategy.
These strategies enable the investor to set boundary conditions that shall help to reduce the impending risks.
Breakout strategy is used to figure out the markets that are moving out of the consolidated phase and initiate a trend.
Chart pattern strategy can be applied to understand the two scenarios of the trending and check the range bound markets.
Trend following strategy enables the investors to identify the best strong trending phases of the market.
In a Scenario,
Assume an investor belongs to the USA and plans to trade when London and New York forex markets overlap , and this happens from 01:00 PM to 05:00 PM.
The same investor can take the advantage of the New York session and Tokyo session overlap.
Now, an investor does trading from 09:00 am to 05:00 pm then one can take advantage of trading with London sessions and Tokyo sessions from New York Sessions.
During the overlap period, the investor can find high liquidity while the investors’ chosen currency pairs market is open.