In terms of capitalization, the world’s largest market is the forex. With more than $5 trillion in daily traded volumes, the forex market offers participants a high degree of efficiency due to its robust depth and liquidity. For many traders, the forex is a premier avenue for the pursuit of almost any financial goal.
Forex and futures are very different financial instruments, but the ways in which they are traded are very similar. Although the underpinnings of each market are unique, the application of technical analytics remains relatively constant. Standard deviation is one of the more popular technical tools used in forex trading. So, what is the definition of deviation in forex? We’ll break down what standard deviation is and how it can augment your currency trading strategy.
If you have any experience in the markets, then you know that a sudden spike in volatility can close out a soon-to-be profitable trade as a loss. That’s where standard deviation is most useful ― it establishes the inherent volatility of a currency pair before an order is ever placed.
Standard deviation is a term used in statistics to measure the variance of a dataset from its mean value. Essentially, the further a value falls in relation to its mean, the greater the standard deviation. This methodology is applied to many disciplines, including healthcare, academics, and population analysis.
When it comes to defining deviation in forex, it’s best thought of as being a volatility measurement. Traders use it to put current price action into context by establishing a periodic closing price’s relation to an average or mean value. This is done by executing these basic tasks:
Due to the complexity of calculating standard deviation, doing so manually in a live forex environment is a nonstarter. Fortunately for active traders, most software platforms feature a deviation tool that executes the derivations automatically — in real-time. Among the most popular are Bollinger Bands and the Standard Deviation Indicator.
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Now that we have answered Question #1 —“what is the definition of deviation in forex?” — let’s turn to how to apply the concept to your approach to the market. Although the math behind standard deviation is a bit on the convoluted side, applying the study is straightforward. Once you’ve derived a single or set of deviation values, there are two basic interpretations of the data:
Perhaps the biggest advantage to using standard deviation is that it’s an intuitive tool. Once you determine the presence of high or low deviation, you can tailor a trading strategy accordingly. Here are a few common ways that traders use this information:
In the modern marketplace, technical analysis is a popular means of crafting trading decisions. From market entry and exit to position management, a vast number of technical traders rely on the study of price action to secure market share.