The price movements of a forex currency pair is normally represented with bar charts, candle sticks or lines on various time frames ranging from one minute to one month. Each candle stick on the hourly chart, for example, supplies us with information as per the price of the currency pair at the beginning of the hour, the range of price movement within the hour, and the price of the currency pair at the close of the hour. Most new traders find it difficult to understand the interrelationships between the time frames and how to use them in forex technical analysis.
In order to properly understand the concept of multiple time frame analysis, you need to first understand what kind of trader you are. Generally, there are three classes of traders: day traders, swing traders and position traders. Day traders open and close positions in the same trading day, swing traders could hold positions for days, while position traders hold positions from weeks to months.
As a technical trader, there are just three goals you have in your analysis; where the trend has been, where it is right now, and where and when to get on board. It follows therefore that you need just three time frames to do this, and these will be chosen according to the type of trader you are. A good guideline for choosing is as follows:
- First choose a time frame that best fits your trading class; e.g. 15min chart for a day trader, hourly chart for a swing trader, and daily chart for a position trader. This is where you take your signals from (the system you are using not withstanding). It is where you decide “where the trend is right now”. Most of your trading time should be spent here.
- Then you choose the other two time frames. One should be large enough to be at least four times larger than the first one you chose. This is where you get to know “where the trend has been”. It is where you determine if the trend is up or down so you could trade accordingly.
- The third one should be small enough to be at most four times smaller than the first one you chose. This is where you take your entry i.e. when to get on board. So the combinations could be 1min, 15min and 4hrs for day traders, 5min, 1hr and daily for swing traders, and 1hr, daily and weekly charts for position traders.
Note: The factor of four is to make the Elliot wave’s “waves within wave” principle possible (8 waves make 2 waves on a larger time frame).I’ll explain the need for this in multiple time frame analysis soon. While you don’t need to analyze every available time frame to avoid ‘analysis paralysis’.
So here are a few tips to help you understand the interrelationships and use of multiple time frames:
- Like ocean waves, every new trend begins on the lowest time frame i.e. 1min (once a news release or event calls for that) and gradually progresses to the larger time frames. This happens with several cycles of waves on the smaller time frame before it shows up on the larger time frames. For a swing trader, for instance, the five minutes chart would have formed a series of waves and probably completed its cycle of 8 waves before showing an impulsive and a corrective wave on the hourly chart.
- At this point, the 5mins chart may have gone back to over sold (assuming an uptrend) while the hourly chart is just above 50 on RSI. This is why the time frames you choose should have at least a factorial difference of four; so that if you get a buy signal on the hourly chart as a swing trader, you can then wait for the 5mins to return to oversold position before you buy.
- As the waves progress to the larger time frames, your trading bias will shift accordingly. In the case of a swing trader, once the daily trend is up, you know you are trading against the trend when you follow a signal to sell on the hourly chart. So you want to do that with great care or you ignore the temptation altogether.
In summary, for a swing trader, a good opportunity to buy is when the trend determinant (daily chart) is on a strong uptrend i.e. not yet over bought, and the hourly chart is oversold on an initially formed uptrend, and turning up, while the 5mins is oversold and turning up.
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