Forex Strategy for Day Trading the Non-Farm Payrolls (NFP) Report
The non-farm payrolls report is one of the most-anticipated economic news reports in the forex market. It is published the first Friday of the month at 8:30 a.m. Eastern time by the U.S. Bureau of Labor Statistics. The data release actually includes a number of statistics, and not just the NFP (which is the change in the number of employees in the country, not including farm, government, private and non-profit employees). Another metric included in the data release is the unemployment rate.
As one of the most-anticipated economic news events of the month, currency pairs (especially those involving the US dollar) typically see big price movements in the minutes and hours after the data is released. This makes it a great opportunity for day traders with a sound strategy to take advantage of the volatility. Below is a step-by-step forex strategy for trading the NFP report.
Trade the EUR/USD After the NFP Report
The EUR/USD is the most heavily traded currency pair in the world, and therefore it typically provides the smallest spread and ample price movement for making trades. There is little reason to day trade another pair during the NFP report.
Close all prior day trading positions at least 10 minutes prior to 8:30 AM ET when the data is scheduled to be released. For this strategy we DO NOT take positions before the announcement, rather we do nothing until the NFP numbers are released. When that occurs the price will see a big rise or decline which typically lasts for a few minutes (sometimes more). During that initial move we do nothing, we just wait.
For this strategy, use a 1-minute EUR/USD chart.
Initial Move Establishes First Trade Direction
Just after 8:30 AM ET the price will rise or fall rapidly, typically at least 30 pips or more within a couple of minutes. The bigger this initial move the better for day trading purposes.
The initial move gives us the trade direction (long or short) for our first trade. If the price moves more than 30 pips higher, we will want to go long....but only IF and WHEN we get a valid trade setup, which is discussed shortly.
If the price drops more than 30 pips, in the few minutes after the 8:30 AM release, then we will be looking to go short for our first trade...when and if a trade setup occurs.
In figure 1 (click for larger version) the price moves aggressively higher in the few minutes after 8:30 AM. That means we will be looking to buy when a trade setup occurs. The times on the chart are GMT, not ET. Therefore, 15:30 is when the news was released on the attached charts.
Wait for This Trade Setup
The initial rise or fall in the moments after 8:30 AM lets us know in which direction we will be trading. The next step is to wait for a trade setup. A trade setup is a sequence of events that must unfold in order for us to get into a trade. Since there is often a lot of volatility surrounding the news, we will look at a few variations of the setup, as no two days are ever exactly alike.
Here is what we are waiting for:
- After the initial move of 30 pips or more, there must be a pullback of at least 5 one-minute price bars. This means that if the initial move was up, we want to see the price drop off the high of the initial move and stay below that for at least 5 bars (they don't all need to be down bars). Preferably the pullback makes significant downward progress, but it must not drop below the 8:30 AM price where the initial move began. If the initial move was down, we want to see the price rally off the low of the initial move and stay above that for at least 5 bars. Preferably the pullback makes significant upward progress, but it must not rise above the 8:30 AM price where the initial down move began.
- By waiting for at least a 5-price-bar pullback you can draw a trend line across the highs of the price bars (if the initial move was up) or across the lows of the price bars (if the initial move was down). Note: you are drawing the trendline on the price bars that compose the pullback.
- If the initial move was up, buy when the bid price breaks above the trendline. If the initial move was down, enter a short trade when the bid price moves below the trendline.
This is the simplest form of the strategy and is useful in most situations. Unfortunately, it is quite general, so occasionally the pullback may not provide a trendline that is useful for signaling an entry. In such cases, the alternative entry discussed in the next section may be helpful.
- If a long trade is taken, place a stop loss one pip below the recent low that just formed prior to entry.
- If a short trade is taken, place a stop loss one pip (plus the size of your spread) above the recent high that formed prior to entry.
Figure 2 (click for larger version) shows the strategy at work. The initial move was up, so we want a long trade. There is a pullback that lasts at least 5 bars, and the trendline is drawn along the price bar highs that compose the pullback. The price then breaks above the trendline signaling a buy. A stop-loss is placed one pip below the low of the pullback that just formed.
Alternative Trade Setup(s)
After the initial move, if the price pulls back more than half of the distance of the initial move (before breaking the pullback trend line and signaling an entry) then this alternative method can be used.
- Once the price has pulled back more than 50% (can use a Fibonacci retracement tool), wait for the price to consolidate for at least two price bars. That means the price moves sideways for at least two minutes. Draw a line along the high and low prices of those two price bars once the second bar completes and the third bar is starting to form.
- If the initial move was up, buy if the bid price moves above the high of the consolidation (the line you just drew). If the initial move was down, enter a short trade if the bid price drops below the low of the consolidation.
- If a long trade triggers, place a stop loss one pip below the low of the consolidation.
- If a short trade triggers, place a stop loss one pip (plus the size of your spread) above the high of the consolidation.
Figure 3 (click for larger image) shows an example of this strategy. The price rallies so we are looking for a long trade. The price pulls back and consolidates, but then it drops instead of rallying above the consolidation. In this case, there is no trade, because the price does not move above the high of the high of consolidation. As long as the price stays above where the initial move began we can continue to look for long trades.
In figure 3 the price doesn't stay above where the initial move began. This sets up another alternative trade. If the price moves at least 15 pips past where the initial move began, we can look for a trade in this new direction, following a pullback. In figure 3 the price initially rallies but then collapses and moves more than 15 pips below where the initial move started. This big drop means we are now looking for short trades. When the price starts to pull back, look for either of the entry signals outlined in this section or the one above.
The price target has also been included in figure 3. How to establish the price target is discussed next.
Establishing a Profit Target
Because of the volatility surrounding the news announcement, how far the price moves from the 8:30 price can vary dramatically from one NFP day to the next. Sometimes it only moves 50 pips within a couple hours, other times it moves 300 pips or more in an hour or two.
That said, the initial move is all we have to give us some idea of how volatile the EURUSD is in response to this NFP report.
Since we are waiting for a pullback before taking a trade, once that pullback starts to occur, measure the distance between the 8:30 price and the high or low of the initial move (if the price starts jumping at 8:29 in the same direction, include that). This should be at least 30 pips or more.
Now, cut that number in half. For example, if the price moved 43 pips in the initial move, cut that in half and you are left with 21.5 pips. That latter number is how many pips away you will place your target (an offsetting order to exit the trade at a profit) from your entry price.
Figure 4 (click to see larger version) shows one of the same trades we looked at prior. In this case, the size of the initial move is 115 pips. Cut in half, our "profit target" is 57.5 pips.
Figure 3 also shows an example of the profit target method. In that case, the initial move was 56 pips, so cut in half, you are placing a profit target 28 pips away from the entry.
The Risk/Reward and Position Size
Before any trade occurs you know your entry price.... because you know the high or low of the consolidation or the price where the trendline will be broken. Note that since trendlines are sloping the breakout price will change every bar.
You also know your stop loss location because you know where the recent high/low was prior to your entry. You also know your profit target because the initial move has already happened.
The difference between your stop loss and entry is your 'trade risk' in pips. The difference between your profit target and the entry point is your 'profit potential' in pips.
Only take a trade if your profit potential is at least 1.5x your trade risk. Ideally, it should be 2x or more. In the examples above the profit potential is about 3x the trade risk.
Position size is also very important. Only risk 1% of your capital on a trade. That means your trade risk, multiplied by how many lots you buy, shouldn't be more than 1/100 of your account. For example, if you have $5,000 account, you can risk up to $50 per trade (1% of $5,000). If the trade risk is 20 pips, then your position size should be no larger than 2.5 mini lots (that means taking a trade worth $25,000, which will require leverage). With a 2.5 mini lot position, if you lose 20 pips you will lose $50. If your position size is bigger than that, you will lose more than $50, which isn't advised for this account size.
How to Determine Proper Position provides more example of how to calculate the perfect position size.
ADAPT the Method, Don't Copy It
The method described above is a guideline. It is impossible to describe how to trade every possible variation of the strategy that could occur. This is why demo trading the strategy, before live trading, is encouraged. Understand the guidelines and why they are there, so if conditions are slightly different on a particular day you can adapt and won't be frozen with questions.
For example, above we stated that if the price initially moves more than 30 pips in one direction, but then reverses and moves 15 pips beyond the other side of the 8:30 price, we will now look for trades in this new direction. 15 pips are just a guideline because it helps to show that the momentum has totally shifted it. That may be evident before the price moves 15 pips beyond the 8:30 price, or sometimes it may require more of a move to signal the reversal has really occurred (for example if the price is just whipsawing back and forth). Seeing the reversal is what matters, not the15 pips.
If the initial move was down, but the price stalls out and makes several attempts to move lower but can't, and then has a huge and sharp move to the upside, that is a reversal. The bias should be to take long trades...even if the rally is still below the 8:30 price.
Trade the strategy several times and understand the logic for the guidelines. That will make you much more adaptable, and you will be able to adapt the strategy to almost any condition that may develop while trading the aftermath of the NFP report.
You may also find that under certain conditions the target price isn't realistic for the movement the market is seeing. Depending on the entry price, the target may be way out of the realm of possibility, or it may be extremely conservative. Again, adapt to the conditions of the day. If the profit target seems way out of wack, use a 3:1 reward to risk target instead. The goal is to place the target at a logical and reasonable location based on the trend and volatility. The profit target method helps do that, but it is only a guideline and may need to be adjusted slightly based on the conditions of the day.
Final Word - Practice Before Live Trading
Since the EUR/USD won't act exactly the same following every NFP report, it will take some practice to be able to see these trade setups play out, and be quick enough to jump in and trade them. Practice the strategy in a demo account until you are showing a profit (cumulative) after trading at least 5 NFP reports, only then should you consider trading this strategy with real capital.