The 70/20 Principle Of Trading – What It Means For Your You
Ever wonder why you get into a trade and the market seem to stop moving? What about getting to your trading desk and realize that price goes nowhere for the next hours?
Well, if you're wondering why that happens, you aren't taking advantage of the 70/20 Principle of trading.
According to Mark Boucher, the #1 money manager ranked by “Nelson’s World’s Best Money Managers”, about 70% of the moves in a given market occur 20% of the time.
This has very important implication in trading and I think it is crucial to be aware of those.
1) You Do Not Need To Be In Front Of The Screen At All Times
Think about it. If 70% of the moves of a currency pair take place in only 20% of the time, there's no need for you to watch the chart all day, right?
If you want to catch the biggest chunk of the moves, you only really need to be focused on the market for a small portion of the time. This means that if you are looking to day trade, you'll have to take a look at the major Forex market sessions. In fact, some sessions bring much more volatility and are likely to produce big moves in the market.
2) Price Isn't Constantly Trending In A Trend
While the first implication of the 70/20 Principle has to do with Forex day traders, there's also something to be learned for swing traders (those trading larger time frames).
By looking at a high time frame chart (Daily chart & above), swing traders can often identify a clear trend. However, a trend of a certain time frame doesn't mean that price will move in the same way on lower time frames.
See this Daily chart:
It shows a clear downtrend on the USD/CAD. Let's see what that looks like on a 1-Hour chart:
Except for a few big drops in the USD/CAD exchange rate, the pair has been moving sideways. The few drops identified by arrows were responsible for the whole downtrend.
Interesting, isn't it?
Here's what that means…
Since only big moves in one direction occur about 20% of the time, it is essential for you to enter trades at the right time. This is why I love so much multi-timeframe analysis. You get to figure out where the market is likely to move quickly and you can catch those moves in the larger picture.
But the key here is to enter the market at the right place. If you enter a trade at the bottom of a range, you are likely to be surprised. The price can very well go back up. In short, once you've identified a downtrend, start looking for retracement.
The 70/20 Principle of trading should reduce the pressure you have to be in front of a trading screen at all times. You can catch the biggest part of the moves in only a small fraction of the time.
Additionally, make sure that you do not enter a trade on a smaller time frame solely based on a higher timeframe trend. The location of your entry matters more than you think.
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