Trading the News – Reactive Approach

When using this approach a trader does not need to forecast whether a certain economic report will show improvement or not. The only action he/she needs to take is to react after economic data is released and only if the reported number/reading is substantially above or below what has been expected by analysts. Signal providers, which trade the news, usually use this reactive approach.

Some traders prefer to enter the market only in case the reported number/reading is larger than 100% of the median forecast. For example, if Japanese industrial production index is reported to have increased 4.4% on a monthly basis (given the fact that experts project a rate of increase of 2.0% for the respective period), a reactive trader would probably sell USD/JPY. On the other hand, he/she would probably buy USD/JPY, if the index of industrial output was substantially below the median forecast and especially if the rate of change was reported as negative. The more the number/reading deviates from the median estimate, the greater the chance of a successful trade.

What does a trader need to do?

As with any other trading approach, there are certain steps to be followed.

When going long:

the trader needs to enter the market at least five minutes after a key macroeconomic report is published. This way he/she can make certain that there are no immediate corrections. In case the number/reading greatly outstrips forecasts, the price move may last for more than five minutes;

the trader needs to place a protective stop at the low price of the news candle. If the pair retraces back to the low price of the candle, when the key economic report is released, this can be taken as a signal that market players are not very confident in this number/reading;

the trader needs to take profit on 50% of his/her position, when the price moves in his/her direction by the amount put at risk;

the trader needs to place a trailing stop on the remaining portion of his/her position by the 20-day SMA, or set a profit target at a distance three times the amount risked.

When going short:

the trader needs to enter the market at least five minutes after a key macroeconomic report is published;

the trader needs to place a protective stop at the high price of the news candle;

the trader needs to take profit on 50% of his/her position, when the price moves in his/her direction by the amount put at risk;

the trader needs to place a trailing stop on the remaining portion of his/her position by the 20-day SMA, or set a profit target at a distance three times the amount risked.

The reactive approach also has some issues – the stop tends to be larger, which may appear to be inconvenient for some traders. The first profit target, in addition, may not be reached for hours. For the sake of comparison, when a trader uses the proactive approach, as long as the reported number/reading is decent, the first profit target is usually reached during the five minutes following the news release. It is possible that the second portion of the position may remain active for several hours, but however, the protective stop is placed at breakeven.

Example

Let us look again at the UK jobless claims report, released at 11:30 GMT+3 on June 11th 2014. We again use the 5-minute chart of GBP/USD. As reactive traders, we make a long entry five minutes after the report is published. Thus, we enter at the close price of the news candle, at 1.6783, while we place our protective stop at the low price of the news candle, or at 1.6751. The amount we risk is 32 pips, so we now set our first profit target at a distance of 32 pips from our entry, or 1.6815. The target is hit at 9:50 GMT+3 on the next trading day (as we said above, at times the first target may not be reached for hours). We sell 50% of our position at 1.6815, while we move the protective stop on the remaining portion of the same position at breakeven. Next, we trail the stop by the 20-day SMA. The remaining portion of the position is exited when the price moves back below the SMA. This occurs at 11:15 GMT+3 at 1.6821. The total profit on our trade is 32 pips (1.6815-1.6783) + 38 pips (1.6821-1.6783), or 70 pips, while the average profit is 35 pips.