Why Trend Following?

What is trend following?

Trend following in itself is as it state, following trends. However, in trading terms it means we're looking to follow the overall flow of the market and trade with the direction of the 'overall flow' and one direction of the market.

Why trend following?

Trend following is one of the simplest forms of trading or investing. When we're looking to identify the trend we're looking at weighing up the market as a whole and finding a decent entry, not a perfect entry but a decent entry. One of the many benefits of trend following is it has the 'snowball' effect which means that your equity grows and grows as the trend progresses. 

A forex trend occurs when one currency strengthens in comparison to another currency. For example if the Australian dollar is strengthening because Australian interest rates are going up (making the currency more attractive) and the US dollar is weakening because interest rates are dropping in the US, then the AUDUSD exchange rate would likely exhibit a good trend.

 

Just as in stock and futures trend trading, a forex trend following system can be based solely on price movements and perform well over a long period of time. Forex trend trading systems can have the same mechanics as stock and futures systems.

 

Generally the best forex trends occur in the USD exchange rates rather than the cross rates between other currencies. Below is an excellent example of a forex trend in the EUR against the USD (EUR/USD that could have been traded using the Global Institute of Trading Snowball strategy.

The green points point out entry and the red point out our trailing stop loss being hit. In one example we gained +582 pips and on the other +322 pips.

Trend following is one of the oldest forms of trading and investing with many well know traders and investors adapting this method. Just to name a few: Jesse Livermore was a trader from 1900-1950. He adapted a trend following system and speculated on markets. At one point, he was the worlds richest person.

Warren Buffet who is considered the worlds most successful investor is strictly a trend follower, buying markets on dips and at a fair price in value.

Jerry Parker who is one of the most successful 'turtle traders' who, to this day is a strict systematic trend follower.

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Trend trading is simply an approach in which you identify that a trend is in place, enter the market in the direction of the trend and hold the position until the trend reverses.

After entering at a low risk entry point, trend following generally uses an initial stop loss point which is fairly close to the entry point. Once a trade is profitable a wide trailing stop allows plenty of price movement before exiting a trade. This ensures you remain in the trade for the duration of the trend and don’t exit too early.

 

The wide trailing stops work because trends can get volatile and may move against you quite a way before rocketing off in the desired direction again. If you use too tight a trailing stop then you will be forced out of the trend and miss out on the potential profit from the big move later in the trend.

 

When your trend following system is right (around 45% of the time) and the trend continues, large profits are made on the trade. When the system is wrong (around 55% of the time) you exit quickly at a small loss and move on to the next trade.

Trend following systems make money overall, even with this lower percentage of winning trades, because winning trades are much larger than losing trades. Even though while holding trades your account may be in draw-down due to the losses you've taken along the the way while holding open positions, the equity will carry out any losses and once closed, propel your account at an expediential rate. 

Is trend following better if I have a busy life?

Yes! One of the many benefits of trend following is that it works great with those that have a busy life due to studying, work, family or other commitments. On average, our mentors at Global Institute of Trading only spend around 1 hour a day in front of the charts looking for trades. You won't have to sit in front of the market all day everyday.

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