Relative strength can mean alot of things in the financial markets as there are more than a few technical tools using this title to describe what they attempt to do.
But in the most simplest terms, relative strength refers to the comparsion of two markets to determine the stronger and the weaker. This information can be of great value to the FX trader. Let’s look at an example. This 4-hour chart of the EUR/GBP shows that there has been a change in sentiment on the value of these two currencies based on the observation that the market is rising. This means that the EUR has been stronger than the GBP since the beginning of February.
This also means that traders who like trading the EUR/USD and the GBP/USD might start looking at the GBP/USD for selling opportunities instead of the EUR/USD. The idea is to match the strongest currency you can find with the weakest and to trade that pair. After each trade, one should take a look to see if there have been any changes in the strength or weakness of each currency. If there have been, like we see here on this chart, then the trader should be flexible enough to focus on the new pair instead of assuming that nothing has changed. This is really no different than how stock traders find a strong industry group to trade and then buy the strongest stock in that group. I am using a 4-hour chart here and I think this is applicable for those who trade on the hourly chart. I think it best to use a longer time frame chart for this analysis than you use to trade. We want to make sure that the relative strength lasts long enough to use it as an edge in our trade. The goal of profitable traders is to identify an edge and then take advantage of it for as long as it provides that edge. The relative strength of each currency is one edge that can lead to better trading results.
Written by Dailyfx.com