What is the 5-3-1 trading strategy?
The 5-3-1 trading strategy is a simple guide used by forex traders to help establish the best forex trading plan for their own style. The 5-3-1 strategy is especially helpful for new traders who may be overwhelmed by the dozens of currency pairs available and the 24-7 nature of the market.
The numbers five, three, and one stand for:
- Five currency pairs to learn and trade
- Three strategies to become an expert on and use with your trades
- One time to trade, the same time every day
Let’s look at each element of 5-3-1 trading in more depth.
The 5-3-1 trading strategy designates you should focus on only five major currency pairs. The pairs you choose should focus on one or two major currencies you’re most familiar with. For example, if you live in Australia, you may choose AUD/USD, AUD/NZD, EUR/AUD, GBP/AUD, and AUD/JPY. You may base your pairs around the times they are most traded, but we’ll get to that part of the strategy later.
By focusing on only five pairs, you can gain a deep understanding of how the pairs move.
Keeping your trading plan focused on just three specific strategies allows you to focus your technical analysis on specific timeframes that best fit with your chosen indicators. It also ensures you don’t become confused by using too many indicators to the extent they begin to contradict each other and show mixed signals.
Number three can be further broken into three components:
- First, pick a specific trading style that works best with your goals. This may be carry trading, scalping, news trading, swing trading, etc.
- Then, choose a few indicators that work best with your chosen style. Moving average-based indicators like the MACD and Stochastic Oscillator work well for day trading, and the Relative Strength Index (RSI) is popular among momentum traders
- Finally, decide on a risk management strategy that best fits your style. You may prefer to set close stop-loss and limit orders to lock in small profit gains and prevent losses, or you can use trailing stops to capture gains during long-term momentum trades
Followers of the 5-3-1 strategy only trade at one time, every day. One of the biggest draws to the forex market is its 24-7 availability. The all-hours trading offers liquidity and the opportunity to trade whenever you want. However, failing to log in to your trading account on schedule will guarantee you miss trading opportunities, or the market will move against you without your knowledge.
The time you pick to trade should be when the currency pairs you’ve chosen to trade are most active. Traditionally, the forex market is separated into three sessions: the Tokyo session, the London session, and the New York session. You can probably guess by the names which currency pairs are most traded during each session.
For example, The Tokyo session may not seem worth your time if you live in western Europe or the Americas. It also features the least liquidity across all currency pairs. However, if you’re interested in the carry trade strategy, it may be worth choosing this time as AUD/JPY and NZD/JPY are two of the best currency pairs for carry trading.
The time frame you choose to monitor your trades daily depends on the first two steps of this plan. Yet it is also the most crucial for you to execute your trading strategies. If you log in to trade a currency that has low liquidity during that time, you’ll be stuck unable to execute your trades according to your strategy.
Practice the 5-3-1 trading strategy
You can practice implementing this formula with different currency pairs and trading strategies risk-free when you create a FOREX.com demo account.