If you want to enjoy forex trading success then you need to know how to deal with volatility and that means knowing and understanding standard deviation, - if you don’t know what it is you should it’s a key part of forex education and vital to achieve Forex trading success.

The Problem

Most forex Traders can spot long term trends but they cant profit from them because they get stopped out by volatile counter moves which clip their stop and give them a loss – then they see the currency go the way they thought and pile up huge gains.

If you want to win at forex trading then you need to deal with volatility. Let’s look at standard deviation and what is and how we can use it to help us deal with volatility.

Standard deviation is a statistical term that refers to and shows the volatility of price in any currency or financial instrument. Standard deviation measures how widely values are dispersed from the mean or average.

Dispersion is defined as the difference between the actual closing value price and the average value, or mean closing price.

The larger the difference between the closing prices from the average price, the higher the standard deviation and volatility will be. On the other hand, the closer the closing prices are to the average mean price, the lower the standard deviation, or volatility of the currency is.

Technical Calculation

Standard deviation the square root of the variance, and the average of the squared deviations from the mean.

High Standard Deviation is present when the price of the currency studied is changing volatile and has large daily ranges in reverse low Standard Deviation values take place in periods of consolidation i.e. when prices are more stable and range bound.

Keep This in Mind

Prices spike away from the average as the participants react to the emotions of greed and fear and then return to the average mean, when prices have moved to far to quickly.

A great tool for helping you understand standard deviation and picking areas to enter your trades with good risk / reward is the Bollinger Band.

Dealing With Volatility.

Key points to keep in mind are:

That strong trending moves will break back to the mid Bollinger band and this provides you with an area to target to get in on the trend. When the bands expand and volatility is high, prices will normally recoil back and you can take a contrary trade in the opposite direction, as prices return back to the mean.

Consider this equation:

Fundamentals (Long term average mean) + Investor perception (High volatility to Inner and outer bands) = price.

The price of anything tends to dip back to the mean or average - but investors will spike prices to far up or down along the way. This is a simplified version but its obvious how to trade this equation, as we have suggested above.

Always keep in mind that huge price spikes don’t last and the average in a strong trend is a value area.

Target these areas and use your technical tools on your forex charts to define entry.

Using Standard Deviation for Greater Profits

Standard deviation tells you how volatile prices are and a Bollinger band reflects this – it is not however on its own a signal to trade. By understanding volatility and how it occurs through standard deviation you will be able deal with volatility better and pick low risk / high reward exit and entry points.

If you don’t understand standard deviation and its impact day to day you won’t make money trading currencies so make it an essential part of your forex education. If you do it will help you on the road to currency trading success.