How To Use A Technical Analysis Chart For Trend Trading
The trend is your best friend in any financial trading market, as they say, and using a technical analysis chart for trend based trading is a simple method that at the same time can be very successful. Many traders over complicate the markets, especially at the beginning of their trading career. In fact simple systems can be the most effective.
Most traders use candlestick charts for this purpose, because they are so clear. Bar charts can also be used if preferred. Line charts would not be used.
The first thing to consider is whether the market is rising or falling. This should be visible at a glance, especially if we check several time periods. Use an indicator like Bollinger Bands to make sure that a rising market is not overbought, or a falling market oversold. Once we have this information, which should just take a few seconds to verify, we can begin to draw trend lines on our technical analysis chart. Here’s how.
First, draw a straight line through the highest highs and another through the lowest lows.
1. Bullish market
If the two lines are approximately parallel and heading upward, there is an upward trend. The two trend lines can be used as support and resistance lines, which means that we assume the price will remain within the area between the two lines while the trend continues.
So if the price hits the lower line, you could buy on the assumption that it would soon rise again. First of course you would check against another indicator such as the Bollinger Bands and perhaps check in another time period to make sure that there are no signs that the trend is ending.
Some forex traders would also open a trade to sell the currency pair when the price hits the upper line, on the assumption that a retracement is due. This bucks the trend so requires extra care, but can be a profitable strategy.
2. Bearish market
If the two lines are approximately parallel and heading downward, then you have the opposite situation. The trend is downward. Again the lines act as support and resistance lines. This time you would be acting in line with the trend by selling when the price hits the upper line. Buying when it hits the lower line would be bucking the trend in the hope of a retracement.
3. Stable market
If the two lines on the technical analysis chart are approximately parallel and horizontal, the market is relatively stable and there is no trend. You could still trade on the basis of the support and resistance lines but most traders using trend-based systems would wait for a new trend to form.
4. Converging prices
If the two lines are not parallel but drawing closer together so that they would meet at an imaginary point in the future, sooner or later the price will break out and head in one direction or the other. Either wait for the breakout or place conditional orders so that if the price breaks above the limit of the upper line you would buy, and if it breaks below the lower line you would sell.
5. Diverging prices
If the two lines are not parallel but moving farther apart, this indicates that prices are becoming increasingly volatile. Most traders would stay out of this market.
Of course, financial trading is always risky and there are no guarantees. Always test systems thoroughly using the technical analysis chart in a demo account before risking any real money.