Trading Forex when Volatility is High

By: Terry Allen

The rate that currency pairs fluctuate over a given time period is called volatility. You will find that currency pairs move at a much faster rate over extended ranges when volatility is high. Forex generates very high levels of volatility about 30% of the time and can produce very sharp price spikes during these periods.

You should always adhere to your Forex trading strategy at all times, but especially so during volatile periods. Price movements can be so rapid and vicious that you cannot allow even the slightest emotional whim to interfere with your Forex trading decisions. As a major priority, you need to control and lower your risk exposure as the pressure on you intensifies under these conditions. Unless you impose strict self-control and discipline, the sheer speed of events could overwhelm you resulting in serious financial losses.

To counter the effects of volatility, you must focus on the key elements of your Forex trading strategy such as its money management concepts, risk control benchmarks and contingency plans. For example, you should consider using tighter stops in order to reduce your risk of financial loss. You may quite rightly object that you could be stopped out quicker because of the violet price movements. However, you are still well-advised to expose even less of your fiscal budget under these conditions.

You can achieve this objective by employing smaller stops together with reduced lot sizes. You should aim to risk not more that 1% of your entire budget when Forex is volatile. You could still realise good profits because the size of your wins could be greater because of the increased price movements.

For example, assume that you are shorting an USD/YEN trade. Under normal conditions, let us assume you usually use an 100 pip stop. When conditions are volatile, you could consider using just a 60 pip stop which will still provide you with an adequate level of protection. However, should you be stopped out, then you must realise that the vicious price movements would have more than likely extended much further.

You could research and perfect this concept by bench-testing different stop values during previous periods of high Forex volatility. For each configuration you choose, you need to calculate its win:loss ratio and expectancy values so that you can compare them to others. You will eventually hone into the best stop value by utilizing this approach.