Forex Correlation Pairs Trade

Entry Logic

• Entry triggers when two highly correlated pairs (e.g., AUD/USD and NZD/USD) diverge by more than 2 standard deviations.
• Confirmation requires the spread between the two pairs to start converging.
• Timeframe is the 4-hour chart.
• Location is an extreme divergence between two correlated pairs.
• Market condition is typically a ranging market.

Exit Logic

• Profit target is the mean of the spread.
• No scaling out.
• Trailing stop is not used.
• Exit on signal failure if the spread continues to diverge.
• Exit on an opposite signal if the spread reaches the opposite extreme.
• Exit on time expiration after 5 days.
• Exit on momentum loss if the spread fails to converge for 24 hours.

Stop Loss Structure

• Hard stop is placed at 3 standard deviations of the spread.
• No soft stop is used.
• Maximum dollar loss is 1% of account equity.
• Maximum percent loss is 1% of account equity.
• Structural stop is placed at an extreme level of the spread.

Risk Management Framework

• Risk per trade is 0.5% of the account.
• Maximum daily loss limit is 1.5% of the account.
• Maximum weekly loss limit is 4% of the account.
• Maximum drawdown allowed is 12%.
• Risk-reward ratio requirement is a minimum of 1:1.5.

Position Sizing Model

• Sizing is based on a fixed fractional model (0.5% of account per trade).
• No volatility adjustment is used.
• Conviction sizing is not used.
• No scaling in.
• No scaling out.

Trade Filtering

• Avoid trading when the correlation between the two pairs breaks down.
• Requires a clear historical correlation.
• Instruments are two highly correlated forex pairs.
• Can be traded at any time.
• Avoid trading during major news events that could affect one pair more than the other.

Context Framework

• Trend direction is not a primary factor.
• The focus is on the statistical relationship between the two pairs.
• Moving averages are not used.
• Location is an extreme of the spread.
• Higher timeframe (daily) should show a stable correlation.

Trade Management Rules

• This is a mean-reversion strategy.
• Take profits at the target.
• Do not add to the position.
• Be patient and let the trade play out.

Time Rules

• This is a swing trading strategy, so time of day is not relevant.
• The focus is on the 4-hour and daily charts.
• No session-specific notes.

Setup Classification

• A+ setup: Divergence of more than 2.5 standard deviations with a clear mean-reverting history.
• A setup: Divergence of 2 standard deviations.
• B setup: Divergence of 1.5 standard deviations.
• C setup: Trading when the correlation is weak.

Market Selection Criteria

• Instruments are two highly correlated forex pairs.
• Requires a stable correlation.
• Volatility can be low to moderate.

Statistical Edge Metrics

• Expected win rate is 70%.
• Average win is 1.5R.
• Average loss is 1R.
• Profit factor is 2.33.
• Expectancy per trade is +0.45R.

Failure Conditions

• Strategy fails when the correlation between the two pairs breaks down due to a fundamental reason.
• Avoid trading when there is a major divergence in the economic policies of the two countries.

Psychological Rules

• Be disciplined to trade against the short-term momentum.
• Trust the statistical relationship between the two pairs.

Advanced Components

• The statistical correlation and standard deviation are the key advanced components.
• No other filters are used.
• No multi-timeframe alignment is needed.

Location

• Strongest when the correlation is stable and the market is ranging.
• Weakest when the correlation is unstable and the market is trending.
• The stability of the correlation is the most important factor.