As a rule, market participants are divided into several groups, each of them prefer their own trading methods. It is hard to say what is the exact ratio of supporters of various methods. However, we tend to think that most traders stick to pullback trading despite the fact that it is quite a risky strategy.
Pullbacks occur inevitably because the market cannot constantly rise or fall. The growth must be accompanied by the drop, and vice versa. In order to determine a potential pullback on the chart, it is necessary to analyze the market carefully with the help of different elements. In this case, the classical technical analysis with its various elements comes to help.
As you can see, the problem is big enough. In order to develop and implement any trading method, it is essential to have sufficient knowledge of market analysis. In case of market analysis with the use of a pullback trading strategy, it is necessary to choose carefully the specific elements of the technical analysis and set the parameters of these elements correctly.
The problem of the pullback theory is that any reversal against the current trend can be interpreted by a trader as a pullback. But in fact, a trend reversal may occur instead, so the definition can be quite vague. It all depends on your individual approach.
The simplest and most effective strategy of pullback trading is buying near the support level. Your own lines, as well as moving averages, can be used as the support level. Moreover, you can use either one moving average or their combination. Both moving averages and support levels work well for this strategy. So, it doesn't really matter which of them you choose. The only question is what period for moving averages should be set.
If you look at this question more closely, you will see that each trader strives to make greater profit. However, the thing is that in order to get huge profits, a trader should use longer time frames. Firstly, this will give an opportunity to have more trust in the support level. Secondly, it will make it possible to get more profit. If so, then the strategy of trading on longer time frames deserves more attention. Therefore, when determining the parameters of moving averages, it is recommended to choose the values from 50 and above. For each currency pair you need to choose different values for moving averages.
Now let’s discuss a basic pullback strategy.
The first thing we should do is to establish a correspondence between the daily and weekly chart. Take a weekly chart of a currency pair and set the trend’s direction according to the moving averages. Set the parameters of the moving averages, taking into account the peculiarity of a particular currency pair. For example, it will be 50, 100, and 200. Then build the support and resistance levels.
Secondly, it is necessary to correlate the weekly trend with the daily one. Often traders use the Fibonacci retracement levels in this trading strategy. This gives an opportunity to determine the covert support level in case of the price pullback. The problem is that despite the seeming simplicity, this approach is rather difficult, and trading based on this theory becomes much more complicated.
The difficulty lies in the fact that you need to define the level of retracement correctly. That is why you should be especially careful when determining this level. As a rule, deeper retracement levels are more reliable. So it is recommended to follow a 62% retracement level to be on the safe side. Using this level, it is necessary to make sure that it corresponds to the moving averages which should be in the area of this level.
Also be sure to use additional components of the technical analysis. With respect to the described strategy, you can use the RSI and Stochastic. When the price pulls back to the support level, it is recommended to take into account the values of these indicators, for instance, Stochastic. If at this time the indicator’s line is located in the overbought area, it will be a good signal for a reversal. Besides, when you analyze the situation, the Japanese candlestick analysis works well. The bullish candlestick at the expected low of the pullback also makes this signal more significant.
Finally, you should open positions only when all the elements follow similar dynamics. Thus, the price has to achieve the support level, while the Stochastic indicator should break out of the overbought area. What is more, the bullish candlestick should be formed at the potential reversal area. Typically, the most appropriate time to open a position is when you see a candlestick confirming your assumption, that is, a bullish candlestick in our case.
The given trading strategy has many followers. Its advantage is that it performs equally well both with upward and downward trends. One more factor in favour of this strategy is the analysis of bigger time frames. Of course, we do not want to say that the present strategy is absolutely ineffective on short-term time frames. Still, most traders prefer to use it for longer periods of time. Anyway, if you want to apply this strategy in intraday trading, you should look for effective parameters for all the elements you use.
