Today we will look at the easiest way to use currency ratios. For this we don’t need any additional helpers like indicators or tables. We will talk about the correlation of trading with common currencies such as EUR/USD, GBP/USD, USD/JPY, etc.
The Strategy Itself
Everything is extremely simple. We will use currency correlation to find new trading setups and confirm already received signals. For example, if you receive a sell signal for the EUR/JPY pair, you should check the USD/JPY pair for a confirmation signal, as these instruments are in direct correlation. If the second pair also gives a signal to open a short position, then the chance of your position being successful is much higher.
You can also use correlation to disprove signals. That is, even when you receive a clear buy signal for the EUR/JPY pair, you still better abandon this idea if USD/JPY has broken down the main support and will clearly continue to fall.
Let's look at a few more examples of how the strategy can be applied.
First Way
Unfortunately, it’s not always possible to determine a clear price level or the presence of any additional clear signal on the chart. To do this, you can use a correlated currency pair where price levels are visible more clearly.
Let's use an example with USD/JPY and GBP/USD currency pairs that are inversely correlated.
- On the first chart, the price breaks through the resistance and goes back for retesting, which gives a clear buy signal.
- In the second chart, we see the formation of a fuzzy triangle. The signal on this figure may turn out to be inaccurate, but the breakout is confirmed by the signal from the USD/JPY pair, so you can safely open a short position on GBP/USD.
Second Way
In addition to the chart, you can use the percentage of sellers and buyers on correlated pairs.
Let's take an example. You are trading EUR/USD but the number of bulls and bears is uncertain. Then it's worth taking a look at the correlated currency pairs:
- EUR/USD - 51% of sellers and 49% of buyers
- GBP/USD - 40% of sellers and 60% of buyers
- AUD/USD - 35% of sellers and 65% of buyers
- NZD/USD - 28% of sellers and 72% of buyers
Three correlated pairs give a clear buy signal, so you shouldn't sell on the EUR/USD pair, even if there are slightly fewer bulls there. Considering the signals from the other three instruments, the first pair will also go up.
Third Way
You can confirm unclear patterns with figures from other currency pairs. Let's take a look at an example below.
The first chart shows a rather unclear buy signal. In a normal situation, it is best not to risk entering into such a trade. However, the correlated currency pair has formed a clear Head and Shoulders pattern that confirms a buy signal on both instruments.
To Summarize
Currency pairs correlation is a great way to find and confirm trading signals. However, you should use it wisely. Many beginners start jumping to other instruments with clearer signals. However, this is not always possible, as not all correlating instruments are available from the broker. Plus, it's much better to learn how to manage one currency pair before getting to know a new one. So I advise you to use the correlation exactly as a confirmation or disprove of trading signals on the currency pair you are used to. Good luck!