Forex Trading: Gold record highs, trend followers making a killing!

by Joe Oliver, Forex Trading-Pips

Forex Trading: Gold once again registered record highs Friday as money continues to flow into the precious metal and out of risk assets including stocks and other industrial commodities. Trend followers are reaping huge returns from the current run up in gold.

How do trend followers make money trading gold and other markets?

Trend following is based on the premise of buying high in the hope of selling later at an even higher price, or selling low in the hope of buying back at lower prices. Trend following is a momentum strategy and does not attempt to buy low or sell high as do ‘mean reversion’ traders. Trend following is a difficult methodology to follow due to the large number of loosing trades. Typical long term trend following systems register just 30-40% wins, however it is the size of the average win (large) versus the size of the average loss (small) + a few monster winning trades which makes the system profitable over a large sample of trades.

One of the best know trend following methodologies is the Donchian 4 week rule. The Donchian rules are as follows:

Cover short positions and buy long whenever the price exceeds the highest high of the previous 4 calendar weeks.
Liquidate long positions and sell short whenever the price falls below the lowest low of the previous 4 calendar weeks.

Below is a chart of Gold continuous futures contract showing recent trades using Doncian’s 4 week rule. Long entry is indicated by green up arrows, short entry by red down arrows. The system in its original form is stop and reverse meaning that it is always either long or short.

Gold, Daily Bars Donchian

Gold, Daily Bars Donchian