Hedge trading

The concept of hedge trading is simple enough. Market mavens estimate that most currency pairs move within defined ranges for approximately 80% of the time. When a breakout from such a range occurs, it tends to be sudden and sharp, the sort a trader wants to catch; however, for those who cannot sit and watch the market constantly, these can also be the moves that are easiest to miss, especially if one is asleep when the active London market opens at 8:00 AM GMT or one has misjudged the release of a particularly meaningful fundamental announcement.

It’s easy enough to set a market order at a pre-determined entry point and walk away from the computer; however, the value of that technique depends entirely upon the accuracy of one’s estimate of the market’s future direction, which of course in turn depends upon one’s proficiency in technical analysis and predicting a nation’s economic data prior to its release—not the easiest of tasks in recent months, as a well-known bank’s complete miscall of the RBNZ policy statement, released 5 June 2008, illustrates all too well.

Rather than depend upon a market forecast, no matter how carefully prepared, savvy forex traders prefer to hedge their bets and place two entry orders, one above and one below a currency pair’s trading range, and catch the market’s move whichever direction it goes.
Examine the following chart. This is the four-hour chart of the NZD/USD from late May and early June:

Since 22 May, the NZD/USD has wavered between resistance at 0.7925 and support at 0.7764. With fundamentals roughly balanced—a slowdown in the U.S. versus a potential downturn in New Zealand—only a clear signal of a change in monetary policy from one of the two central banks in question was likely to break the deadlock any time soon.

It was possible, of course, to probe the fundamentals more deeply, to spend an hour analyzing the chart, or to entrust one’s money to the forecastof a trusted analyst; however, the only certain means of catching this breakout was to sit and watch the chart, or place hedge trades above and below the channel.

On the NZD/USD chart above, note that the lines delineating the range are drawn just beyond the extent of the heikin ashi within. When using hedge trades, it’s a good idea to draw one’s channel a bit roomier than normal, leaving room for unpredictable spikes that could penetrate the range, trigger an order, and then withdraw, losing money rather than making it. That remains a risk with any forex trade, of course, but it makes sense to give away a few pips and lower that risk.

Also, ensure that one’s broker offers the feature known as “order cancels order,” meaning that when one order is triggered, the other is automatically nullified. That way, one doesn’t have a loose trade floating about, waiting to be activated when it’s least desired, and often when one is not watching.
The NZD/USD, of course, fell off the table when the RBNZ’s policy statement turned out to be much more dovish than the market anticipated, and it’s still falling as this is written:

For those who weren’t watching their monitors at the moment the movement began, pre-arranged hedge trades would have garnered an easy hundred pips.
source : http://forextradings.com.au