What is deviation in forex?

Deviation in forex is the measurement of a currency pair’s volatility compared to its current average. Keep reading to learn how to interpret levels of deviation in the forex market.

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What is deviation in forex?

Deviation in forex measures the volatility of a specific currency pair by comparing its current price with its simple moving average (SMA). The SMA is calculated by adding the closing prices of a currency pair over a given period, say 20 days, then dividing that figure by the number of periods measured, in this example 20.

Standard deviation is high when a pair’s current price is far from its SMA and low when the price is maintained near its SMA. High deviation indicates strong volatility and feasibly a growing trend. Meanwhile, low deviation represents little volatility and a mature market possibly priming for a breakout.

Note: Deviation in forex trading may also refer to slippage, the difference between the expected price of a trade and the actual price, known to occur most during periods of high volatility.

Beyond volatility, standard deviation can be used to evaluate trend line momentum:

  • At market tops, high deviation might suggest excited, active traders while a low figure suggests a possibly maturing bull market
  • At market bottoms, high volatility could indicate a panicked sell off while low volatility might represent disinterested traders

Why is standard deviation important in forex trading?

Standard deviation is important in forex because it clues in traders to the amount of volatility currently experienced by a currency pair. By knowing how far a pair’s price has deviated from its average, you can gauge the level of risk and significance of various price movements.

Standard deviation is more useful in forex than other markets because of the high volatility experienced in forex compared to markets like stocks and commodities. In fact, gauging volatility is key to trading forex successfully. Misjudging a currency’s volatility can preemptively trigger your stop-loss or result in missing a breakout.

While standard deviation can be used on its own as an indicator, many other indicators use standard deviation in their measurements. Bollinger Bands are a popular example of this. Bollinger Bands are calculated using one standard SMA along with several other SMAs modified by adding or subtracting standard deviations. Learn more about Bollinger Bands.

How to use standard deviation in forex trading

You can use standard deviation in forex trading to determine the volatility of various currency pairs and identify opportunities to go long, short, or develop a new trading plan based on the degree of volatility. Standard deviation can be used as an indicator on its own, but it’s strongest when used in conjunction with other indicators to confirm entry and exit signals.

NOTE: Standard deviation is not an ideal indicator for scalping or day trading as it lags slightly behind the current action of a currency pair or other security.

Forex deviation levels

  1. High deviation: high standard deviation means the current closing price is far from the average and volatility is high. Here, the spread between the ask and bid prices often widens and charts will feature elongated price bars. This may be due to a breakout that already occurred or a significant number of indecisive traders
  2. Low deviation: low standard deviation means the current closing price is close to the average and there is little volatility. Spreads are often tighter in times of low deviation and charts will typically be flat. This may be due to low participation, irregular pricing, or an impending breakout

Standard deviation can also help a trader determine price action around market tops and bottom.

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How to calculate standard deviation

Standard deviation is calculated at the touch of a button on FOREX.com’s award-winning platform. All you need to do is enter the platform and select to view ’Standard Deviation’, often listed as StDev, from the list of indicators.

Or follow these steps to calculate standard deviation manually:

  1. Calculate the market’s SMA for the total period
  2. Subtract the SMA from the closing price for each period in the total period and square them
  3. Add the squared numbers together and divide that figure by the total number of periods
  4. Take the square root of this number

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