Trading support and resistance on a stable currency pair

Trading support and resistance on a stable currency pair

In forex, there are currency pairs that are very volatile, exhibiting choppy movements and wild swings which many traders struggle to catch. Then there are few currency pairs that are overlooked by most traders, but which have more stable price movements that can be traded with less stress and even better profit potential. The pairing between the Australian Dollar and the New Zealand Dollar is one of those stable pairs which can be traded for some good profits. So let us examine aspects of a strategy where support and resistance can be used to trade the AUD/NZD.

Why Trade the AUD/NZD as a Stable Pair?

Pairs that contain the US Dollar are not stable. There are too many factors that impact the price of the US Dollar and this renders pairs that contain the US Dollar quite vulnerable to the news and even events outside of the forex market (such as crude oil-related news). It is therefore desirable to many traders (especially the newbies) to trade pairs that do not have so many external influences, so that they can be traded using technical analysis. This is where the AUD/NZD comes in.

What are the characteristics of the AUD/NZD that make it stable and suitable for this strategy?

a) It forms clearly defined upward, downward and sideways trends. This makes it easier to trade support and resistance than currency pairs that swing widely.

b) It is not affected by a lot of the other market news that shakes up USD pairs. Rather, it is majorly impacted by news that exclusively affects Australia or New Zealand. For instance, the 2nd snapshot we show below was taken after the release of a strong retail sales figure in New Zealand in February 2019. This caused the NZD to strengthen relative to the AUD, pushing the AUD/NZD into a downtrend.

c) It does not experience whipsaws and choppiness. So stops can be set with lesser fear of being taken out by prices that ride like a wild bull.

Support and Resistance Trading on the AUD/NZD

For this strategy, we shall simply deploy the good old trendline on a daily chart, to demarcate support and resistance areas. There will be two strategies involved:

a) Trading a bounce off support or rejection at resistance.

b) Trading a break of support or resistance.

Using a daily chart gives the trader some advantages, one of which is that a trend can clearly be defined better on a daily chart and with greater accuracy. For a currency pair that is not subject to some of the wild swings seen every trading day, this presents a very advantageous position for the trader.

Trading off the Trendline

Trading off the trendline requires buying off support or selling at a resistance. The factor to watch out for is whether the candle is able to break the trendline or not. If prices are downtrending and the critical price candle/bar fails to close below the support trendline, then there is no breakout and the trader can buy off that support. If the price candle that touches the resistance line in an uptrend fails to close above the trendline,, then the trader can sell off that resistance.

It is important to note that in the context of a daily chart, price may test the trendline several times. Therefore, some degree of patience may be required to allow the price to test the trendlines for a few days before deciding on whether to sell off the resistance or buy off the support.

A key marker for when to take trades is volume information. Volume is more important in an uptrend than in a downtrend. Increase in volume indicates increasing activity by the market participants pushing the volume. So if you see an increase in selling volume after repeated but unsuccessful tests of a resistance trendline, you should be thinking of selling.

 AUD/NZD Daily Chart Showing a SELL Trade Setup on a Resistance Line

This example shows an area where price was unable to go above, forming a resistance. Prices went down from there to an area where prices could not go below, forming a support. Price ascended from there and tested the resistance without breaking above it, providing an opportunity for a SELL trade. For this setup, a sell trade off a resistance should use the previous support as a profit target, while setting a stop loss above the resistance line.

Trading a Break of Support or Resistance

The other way to trade support and resistance areas is to trade the break-pullback-breakout sequence. Usually, price will try to go back to where it came from after a break of the trendline. Once it pulls back up to the trendline that was just broken, that trendline will change function. Once a support area is broken, price will attempt an upside pullback but the broken trendline will reject the pullback attempt by functioning as a resistance. If a resistance is broken and price attempts a pullback to the broken resistance, the trendline will change function to act as a support, thus preventing price from coming back down. In technical analysis, this is known as a role reversal.

With this in mind, what we want to trade is a price bounce at support following a pullback with a buy limit order, or a price rejection at resistance following a pullback using a sell limit order. A limit order is used because it helps the trader to enter trades at prices that are more advantageous. So when a pullback is in progress, you can set the limit order in the direction of the trade, using the price level of the broken trendline as the entry price. Do not forget that a candle lasts a whole day on the daily chart, so it is really impracticable to sit on a computer, waiting for when prices will complete the pullback so a market order can be used. Use a limit order instead.

The snapshot above reveals the daily chart of the AUD/NZD pairing, covering the period of July to December 2018. We can see the support levels, the break of support, the pullback and finally the role reversal (rejection of upside pullback at the broken trendline). Downside moves as shown in this example, do not usually require volume confirmation. A sell limit order at 1.0856 would have yielded a profit of 368 pips, if profit was taken at 1.0488.

Practice trading the AUD/NZD on demo with this strategy. Prices as at February 27, 2019 are sitting at a strong support (1.0420). See if you can work out a trade by trading long off the support, or by trading short if price breaks this support area.

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