Why does your profit directly depend on the right choice of timeframe?
Hello, dear readers!
Today, I would like to start from the basics. I’m going to describe in detail the time intervals in the trading chart and explain the difficult word timeframe to beginners. In this review, I will explain the concept of the chart time interval (timeframe) and an insight on how you profit relates to the choice of timeframe. You will get the answers to numerous questions that confuse you, and get a understanding of the trading process. What’s the difference between timeframes in the price chart? How do charts change when you switch the timeframe? In what way does the price movement differ when you choose different scales on the price chart? What are the difference and special features of different timeframes? How to choose the right timeframe for your personality and trading style? You will find the answers to these and many other popular questions in this article.
What is timeframe in forex chart?
Time frame refers to the period that a forex trader chooses to operate in. Timeframe in technical analysis is the period of time during which the quotes are grouped and plot the elements in the price chart, like bars, candlesticks or dots in the line chart. In other words, it is the period of time of a single price element. That is why, it is a very important parameter in any strategy of forex trading.
The closest correspondence to the timeframe is featured by such forms of price visualization as bars and Japanese candlesticks, as they provide more information about the price moves than, for example, dots in the line chart.
It is shown in the picture above how the timeframe is set on TradingView platform. In case with Japanese candlesticks and bars, timeframe indicates the period of time during which a single bar or a candlestick is forming. In the picture above, the timeframe is D1. It means that a single bar in the chart is forming during one day.
You can see more popular timeframes below:
М1(1М) - 1 minute;
М5(5М) - 5 minutes;
М15(15М) - 15 minutes;
М30(30М) – 30 minutes;
Н1(1Н) - 1 hour;
Н4(4Н) - 4 hours;
D1(1D) - 1 day;
W1(1W) - 1 week;
MN1(1M) - 1 month.
All timeframes can be roughly broken into three broad categories:
short-term (intervals from M1 to М30);
middle-term (intervals from H1 to H4)
long-term (intervals from D1 to MN1)
These time periods correspond to the trading strategies that can be divided in a similar way.
How the chart changes, according to the chosen timeframe
Candlesticks in the longer timeframe contain the information about candlesticks in shorter timeframes. Therefore, quite a long period of chart in the M15 timeframe, where there are a few independent price moves and possible price channels, looks like just a single candlestick in the D1 timeframe; the candlestick just changes the colour according to the dominating trend, descending or descending, in the corresponding part of M15 timeframe.
Figure above displays how one red candlestick in the D1 timeframe looks in the H4 period, being 6 consecutive candlesticks that contain the information about four hours each.
What timeframe is good for trading?
Peculiarities of trading in different intervals of time.
When you switch between timeframes, the displayed part of the price chart will show the information about the trends of different duration. If you operate in the time period of the short-term category, the trends, displayed, will be local, changing several times a day. The timeframes of the long-term category display the information about global trends, whose development often takes years or even decades. It stands to reason that the amount of your profit in points will also directly depend on the timeframe.
Let’s study the example of the triangle pattern workout in different timeframes.
In the picture below, there is the pattern workout in the H1 interval. As it is clear from the chart, after entering the trade, the profit has been about 500 points.
In the next picture, there is also a triangle, but the profit from its realization is already 5000 points, which is far more in money terms. The timeframe in the second picture is D1.
However, profit is not the most important that directly depends on the timeframe. The risk degree is more important when you enter a trade. If you analyze the picture, showing the timeframe H1, you’ll see that the price was moving in the profitable direction in jumps and was often changing the direction. It is an essential part of short-term timeframes, as they display information about the price swings during the day. Many can have their stop losses triggered because of those swings. And I don’t even mention the emotional pressure that gets many to give up and exit their trades before they work out.
If you look at the D1 timeframe, you’ll see that the price was moving directly to the profit, without any swings or doubts. In fact, it isn’t so, of course; but the intraday swings haven’t strongly affected the rising candlesticks, just because each candlestick is basically that whole day. Your target profit in the longer timeframe is higher, and so, the risk degree is lower, as the stop loss is at a far longer distance from the current price and doesn’t depend on short-term volatility.
Why is trading in the longer timeframes more efficient?
As you already know, the longer is timeframe, the higher is the target profit and the lower is the risk. You can see this correlation clearer on the example of how signals worked out in different timeframes, suggested by one of the most popular strategies, 3 EMA breakouts.
The picture displays how the signals were worked out based on this strategy in the D1 timeframe. As it is clear from the chart: out of 7 positions, opened according to the strategy signals, only a single one was closed with a loss that was about 92 points. The other 6 trades were closed with a total profit of 18050 points for half a year. Now, let’s see how the signals of the same strategy were worked out in the shorter timeframe, H1:
As it is clear from the chart, out of 8 positions, opened according to the strategy signals, only two of them yielded profits, and the other 6 trades were losing. It happened because the swings in this time interval are stronger and more dynamic in relation to the moving averages, and the indicator just fails to respond in time.
There aren’t such sharp price jumps in the longer timeframes, so, the above strategy proves to be more efficient.
I’ve described the example, based on a particular strategy; but the results of other strategies won’t be so different. Because it is not the strategy that matters here, it is rather the dynamics of intraday price swings.
There are special strategies to trade in the short terms. They are called scalping. Scalping suggests you take a little profit and provide the trading result by means of a huge number of trades performed. All those strategies, if you trade manually, cause permanent harm to the health, as people spend a lot of time trading and hardly ever achieve the desired results. Scalping strategies, based on automated trading, are not worth studying. Most of them are designed to spend most of the funds on commission and spread because of a huge number of positions opened (over 300 per day).
After all, there is a vast amount of various strategies, so everyone can choose the appropriate strategy. The most important to be taken into account is the time that you are willing to spend on trading, based on your strategy. According to global statistics, the most efficient are universal strategies, exploited in the longer timeframes.
Simplicity and plenty of time – the key to trading success in Forex!
Finally, it is time to explain why I suggest trading in the longer timeframes, rather than intraday trading.
There are a number of troubles, daily faced by traders, exploiting shorter timeframes. But, due to several reasons, they fail to identify these troubles and avoid them.
1. Market noise. It is minor price swings, resulted from the short-term shift in the demand/offer balance. It is most often the effect of market makers’ activities. These swings can’t be anticipated; therefore they are rather dangerous for the trades with low target profits. In the timeframes, shorter than H1, all trends are local and the maximum profit rarely exceeds the daily average volatility. According to statistics, average profit is about 400-500 points. With such profit size, the risk or a stop loss should relatively correspond to these values, and that is a big error. The parameter of the market noise directly corresponds to the instrument volatility, and for some currency pairs it varies between 300 and 400 points. If your stop loss doesn’t exceed this range, it is almost 100% likely to be triggered by the market noise; and so, you position is about 100 % likely to be closed with a loss, rather than a profit. You can avoid triggering your stop loss by the market noise only increasing you order size; and that will alter the trading strategy, which is totally inappropriate
2. Emotional component. It is your reaction to the frequent price changes, and accordingly, to the changes of profit/loss value. You know that one of the major factors, affecting your total trading result, is your ability to cope with stress. Even professional traders, who have been trading for years or even decades, suffer from emotional tension. Let alone newbies. 99% of their trades are exited only because they get too nervous; doesn’t matter whether the trade is losing or profitable. The reasons, resulting in emotional tension, are well-known; they are greed and fear. Greed prevents from objective analysis of the situation. And when you need to admit your mistakes and accept the loss, it is greed that prevents you from doing it and inspires the hope for a soon price reversal.
Fear comes when the trade is accumulating profit. You fear that the price will reverse any moment and the profit that you already believe to be yours will start disappearing. In the short-term timeframes, these factors are especially acute because of frequent price swings. The faster is the price moving the more emotions you feel, and the more errors you make. In the longer timeframes, the price swings can be hardly noticed, and so, they arouse less emotion. Therefore, you are more likely to take the right decision.
3. Dilemma: “body or tail”. It is an eternal question of any technical analyst. What is to be recognized as the trend's high, the body of a candle, or its tail (shadow)? Your entry and exit points directly depend on how you mark the trend, particularly, how you place the trendline in the chart. In the short timeframes, this question is especially urgent, as you always need to add the market noise to the major trend. The trade’s efficiency very often depends on the right trendline indication. In the longer timeframes, the tail-sizes, compared to the bodies, are not so significant. And the way you draw the line isn’t that important either. Most often, the trends in the long timeframes look like the price ranges, so you entry points don’t so much depend on the way you construct the line.
4. The time you spend on trading. It is another important parameter, on which much depends. And what is more important, it affects your health. If you spend more than half of a day, sitting in front of your computer, you get tired mentally and psychically. That results in more mistakes, irritability and other negative factors. And if you apply scalping strategy, you will need to spend on trading more than 10 hours per day to achieve any results. There is nothing good here. This way, will get sick and tired someday and won’t enjoy trading any more, which will negatively affect your success in this business.
Trading in the short-term timeframes deals with the need to constantly monitor your positions, and if you can’t exit your trade soon, you will spend more time in front of the terminal. In the longer timeframes, you mostly trade, based on the principle “buy and forget”. And there is nothing bad. You defined the parameters of your trade, accepted its necessity and executed it.
Next, you just expect the result. As the timeframe is long, the result comes not at once, but in a few weeks or months. And, what is the most important, if you’ve correctly identified the price direction, you are just watching the price smoothly moving in the needed direction. For monitoring, you only need to open your terminal for a few minutes once a day to make sure that your decision is right. You can spend all the rest time on your daily activities.
As you see, each of the above points is obviously the arguments for trading in the long timeframes. That is the simplicity. Why should you complicate your job, if you can keep it simple?
The way to trade in long-term timeframes
In the chart above, you can see an example how to identify and open a long-term position for the AUDUSD currency pair, covering timeframe W1; where each candlestick covers 1 trading week.
As an example, the chart displays the strong daily volatility on this time frame; it just a common candlestick, which doesn’t even show that the price was affected by fundamental news during the week. If you study the same week on the H1 timeframe, you will see that the price was jumping sharply and frequently, triggering stop losses on its way and causing traders great losses.
To trade in the long time frames, the most efficient principle for a strategy is “the simpler, the better”. The simplest and the most yielding strategy has always been the basic “trendline breakout” or “trend reversal” strategy. It is only important that you must observe the rules of this strategy. The rules mostly refer to the identifying of entry and exit points.
It is easy. You expect the price to cross the trendline, exiting the price channel, and put a pending order. In the given case, it is a sell order, Sell Stop. You put it at the previous trend’s low, marked before the trendline has been broken through; it the green line Sell in the picture.
The level to fix your profit or Take Profit is set at the level of the first low of the previous trend; it is the pink line Take Profit 1. It is one of the possible levels to fix the profit. There are some others, but they a far lower, according to the chart, and it makes no sense to base on them before the first target is reached.
You also need to limit your possible losses, put a Stop Loss, the brown line Stop Loss. As it is clear from the chart, the expected profit and risk are roughly equal, about 6500 points. It is sufficient to prevent your stop loss from working out because of the market noise and high volatility. Even if the stop loss works out, it will result from a global change in the market situation, which doesn’t happen that often.
If everything goes according to the plan, the price will be moving towards take profit without any jumps that can affect your emotional balance; and the target profit, calculated beforehand, won’t cause in excessive fear or greed. Simply put, no strong swings, no reasons to worry. This example is described on a real chart at the time the article was being written. So, in a couple of months, any reader can check whether the price will reach Take Profit level or not.
Let’s study another example of a position opened in a less global timeframe. It is D1 timeframe, where each candlestick covers one trading day. You see the USDCAD price chart. Again, nothing new is suggested, a common local trend reversal strategy is used. Why is it local? It is still too early to consider the global trend reversal; but one can well trade in the local upward corrective channel.
As you see, an entry is put, like in the previous example, at the level of the brown line Sell. The profit is fixed, according to the rules, at the level of the purple line Take Profit. Why isn’t it at the first low of the trend, like in the previous example? It is because it is beyond the support of the global upward channel, and the strategy suggests trading inside the channel, so the trade must exited inside the channel. The lowest level inside the channel is the Take Profit level.
Stop Loss is the last price high, marked before the trendline breakout; it is the red line Stop Loss. The stop size is 2000 points; so it wasn’t triggered by chance. The target profit is of 3200 points, so one doesn’t have to wait too long until the trade works out; it should take from a week up to a month. The trade is on the real market, so it can be easily checked.
In conclusion, I’d like to add that the timeframe, you choose to trade in, directly determines the efficiency of your work. If you are often disappointed in the results of you trading in a certain timeframe, try changing the timeframe; your results may improve much. After all, whatever timeframe you trade, your results still more depend on the correct following the rules of your money management.
Now it is time to practice and try different timeframes on your own. Study the material and check yourself – enter some trades on a demo account, operating in different timeframes
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The content of this article reflects the author’s opinion and does not necessarily reflect the official position of LiteForex. The material published on this page is provided for informational purposes only and should not be considered as the provision of investment advice for the purposes of Directive 2004/39/EC.