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Trading the Cable - GBPUSD

By , Forex Trading Instructor
22 May 2012 03:00 GMT

One of the oldest and most popular currency pairings in the world is the British Pound v/s the United States Dollar.

Speaking directly to this quality, the name ‘The Cable’ comes from the first transatlantic cable that was laid across the floor of the Ocean for the United States and Great Britain to communicate with one another.

One of the primary pieces of information exchanged on this first transatlantic cable were currency quotes on the two currencies.

A lot has changed since that first Trans-Atlantic cable was placed on the floor of the Ocean, but the GBPUSD currency pair continues to remain a favorite to traders around the world.

This article will take a closer look at this pair, and how traders may want to build their approach in trading ‘The Cable.’ At the end of the article, we’ll also enclose 2 strategies for trading in GBPUSD.

Characteristics of the GBPUSD

The reasons for GBPUSD’s popularity are abundant. The United Kingdom and the United States represent two of the oldest, modern economies in the world. Both economies feature a relative amount of safety, due in large part to the sheer size that each represents to the overall global economy. Below is a listing of the world’s 10 largest Independent economies (using 2011 IMF Statistics, in Millions of US Dollars):

Trading_the_Cable_GBPUSD_body_Picture_1.png, Trading the Cable - GBPUSD

Gross Domestic Product in 2011 per the International Monetary Fund

Perhaps a larger contributing factor to interest in the GBPUSD currency pair is the fact that London is often considered to be the ‘center’ of the Forex trading world.

Estimates approximate that 35% of volume traded in the FX Markets takes place through London. This is the period just before the United States opens for business, leading to some of the most liquid trading times of the day.

As we saw in the article ‘Here is How to Trade Majors like the Euro During Active Hours,’ these market periods can potentially see larger moves as major players in-and-around London enter the market as the UK opens for business.

This can greatly affect the traders approach during the ‘London Session,’ and more specifically in trading the GBPUSD currency pair.

Tools for Trading the ‘London Session’

The various trading sessions throughout the Forex market can take on markedly different tones. For traders speculating with Swing-Trading, or Day-Trading approaches – this can be a huge point of emphasis that can greatly alter our analysis.

For those traders, analyzing price action around the various market timings can be very beneficial.

For traders utilizing the FXCM Trading Station platform, this analysis is very simple with a custom indicator available by the name of ‘Tradesessions.’

By downloading the file ‘tradesessions.lua’ at the enclosed link, and installing to the platform as outlined in ‘How to Install Custom Indicators on Trading Station,’ the trader can see each trading session individually outlined.

Trading_the_Cable_GBPUSD_body_Picture_2.png, Trading the Cable - GBPUSD

Trading Station with ‘Tradesessions’ indicator installed

Strategies for Trading GBPUSD

Before deciding on the way that you want to trade ‘The Cable,’ you should probably answer another question first.

When are you planning on trading?

As we found in the DailyFX Traits of Successful Traders series, the different trading periods in the market can exhibit markedly different tones.

The Asian Session(s) from Sydney and Tokyo have a propensity to be more accommodating for Range-Trading approaches, as hourly moves are – in general – smaller than what we may see during the more active London and US sessions.

Range-Trading approaches often look to buy when price is cheap and at support; and sell when price is expensive, or at resistance. There are quite a few different ways of doing this. In the ‘JW Ranger Strategy,’ DailyFX Instructor Jeremy Wagner looks at trading ranges with the Commodity Channel Index, or CCI. In ‘How to Analyze and Trade Ranges with Price Action,’ I walked you through a way of trading ranges without needing any indicators at all; using only price to point out pertinent areas of support and resistance for building our approach.

For traders looking to trade GBPUSD during the more active times in the market, when liquidity is coming from Europe and the United States, breakout trading may be more accommodating. With breakouts, traders are watching support and resistance, much like in the Asian session. But differing from the Asian session, support and resistance may be broken much more frequently as the onslaught of liquidity entering the market can potentially push price in one-direction for an extended period of time.

Below is a picture of a breakout on the AUDUSD currency pair:

Trading_the_Cable_GBPUSD_body_Picture_7.png, Trading the Cable - GBPUSD

Created with Marketscope/Trading Station

As you can see above, price resisted twice at a price just shy of .9880, but on its third attempt – was able to breakout and run for an extended period of time.

This is what traders speculating during the London and US sessions should be looking for.

Trading Breakouts on GBPUSD

For traders looking to trade breakouts on GBPUSD, there are, once again, quite a few ways of doing so. A key component of trading breakouts is looking for strong risk-reward ratios, such as the trader risking 20 pips, but looking for 100 pips if correct. This could be classified as a 1-to-5 risk-to-reward ratio (20 pips at risk – 100 pips sought = 1:5 risk-to-reward).

With a risk-reward ratio so aggressively on the trader’s side, one would need to be right only 2 out of 5 times to gleam a net profit. If a trader was right 40% of the time with a 1-to-5 risk-to-reward ratio, they could be looking at a handsome profit ( 2 winning trades at 100 pips each = 200 pips won, 3 losing trades at 20 pips each = 60 pips lost, net profit of 140 pips (200-60) not including commissions, slippage, etc).

In ‘How to Identify Positive Risk-Reward Ratios with Price Action,’ we looked at mannerisms for finding and calculating risk amounts. The same mechanism used in that article, identifying previous ‘swing-high’s’ for short positions, or looking for previous ‘swing-low’s’ for long positions – can be used to identify areas to place stops in breakout strategies.

However, since traders are looking for new high’s or new low’s with breakout strategies – limits or profit targets can be calculated simply by looking for a multiple of the risk amount (i.e., I’m risking 63 pips on this trade, so I will look for 5 times my risk amount (or 315 pips (63 X 5)) for my profit target.

As for strategies to trade breakouts, traders can look to the Price Channel indicator, looking for breaks of the highs and lows that were seen on the longer-term charts.

For traders looking to utilize Price Action in their Breakouts strategy, we looked at exactly that in the article ‘Price Action Breakouts.’

Whatever your mechanism for identifying support and resistance; looking to trade breaks of these levels during the active period(s) of the day while looking for price to respect these levels during the more quiet periods will generally bring the trader more robust results, in GBPUSD or any of the other ‘major’ currency pairs.

--- Written by James B. Stanley

To contact James Stanley, please email Instructor@DailyFX.Com. You can follow James on Twitter @JStanleyFX.

To join James Stanley’s distribution list, please click here.

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22 May 2012 03:00 GMT