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Trend lines
The basic trend line is one of the simplest of the
technical tools employed by the chartist, but by any
standard the most powerful and valuable tool in trading.
The trend line is constructed when there are three
higher or lower points to be connected. This forms a
channel which the price action can be monitored.
As discussed, one of the obvious presumptions derived
from chart studies is that prices have a prevailing
tendency to move in a particular direction. This trend
frequently assumes a definition pattern which evolves
along a straight line. This ability of prices to adhere
extremely close to an imaginary straight line is one of
the most extraordinary characteristics of chart
movements.
Drawing a Trend line
The correct drawing of trend lines is an art like every
other aspect of charting and some experimenting with
different lines is usually necessary to find the right
one. Sometimes a trend line which appears to be correct
may have to be redrawn. With practice, the art of
drawing trend lines becomes easier, but initially there
are some useful guidelines in the search for the correct
one.
There must be evidence of a trend. This means that, for
an up trend line to be drawn there must be at least two
reaction lows with the second low higher than the first.
Once two ascending lows have been identified, a straight
line is drawn connecting the lows and projected up and
to the right.
Once the third point has been confirmed and the trend
proceeds in its original direction, the trend line
becomes very useful in a variety of ways. One of the
basic concepts of technical analysis is that a trend in
motion will tend to stay in motion. Therefore, once a
trend assumes a particular slope or a rate of speed, as
identified by the trend line, then it usually maintains
the same slope. The trend line then helps not only to
determine the extremities of the corrective phases but
also importantly, when that trend is changing. Very
often the breaking of the trend line is one of the best
early warnings of a change in trend.
The Significance of the
Trend line
It is very important to discuss how to determine the
significance of a trend line. In every market and on
every chart you see there are many trends in motions,
short term, mid term, long terms, hourly and so on.
However, not all these trends will be significantly
strong. If they are not, a trader runs the risk of
entering or exiting the market at the wrong time. The
more significant a trend line, the more confidence it
inspires and the more important its penetration.
There are two factors that determine the significance of
a trend line. Firstly, the length of time it has been
intact, and secondly how many times it has been tested.
A trend line that the market has tested 8 times for
example, but keeps pushing the price away, is obviously
a more significant trend line than one that has only
been tested twice. As a rough estimate after the third
bounce off the trend line will be when the market will
start to offer trading signals. Similarly, a trend line
that has been intact for the last 9 months is of more
importance than one that has been intact for 9 weeks.
There is no standard as to what duration one needs to
wait before relying on the trend, as some trends will
only stay in motion for short periods of time. To catch
these, you have to use the time in conjunction with the
testing of the line.
Upward trend An
up trend line is a straight line drawn up to the right
of the chart along successive higher highs and lows.
Downward trend A
down trend line is a straight line drawn down to the
left of the chart along successive lower highs and lows.
Range trading
The prices move up and down in a horizontal trading
channel for an extended period of time.
Support and Resistance
Support and resistance levels are ones of the most basic
but essential components of technical analysis. Support
and resistance are price areas where an abundance of
trading has taken place and where considerable buying or
selling pressure exists. Underlying support (buying
pressure) keeps a market in an uptrend, and overhead
resistance (selling pressure) keeps a market trending
lower. Once a trader can accurately determine where
these levels are, they can be used very effectively to
manage risk, and identify profit opportunities. By
entering trades at price levels at which a significant
move is likely, the probability or reward over risk is
improved. There are support and resistance levels that
are applicable to every traders time frame. Observing
how the market reacts when encountering these levels is
a very good barometer to measure the strength of the
underlying trend. They are also key points for breakout
moves. Large quantities of stop loss orders will usually
accumulate at key support and resistance areas and will
often contribute to a dramatic surge in the market in
the direction of the breakout once these areas have been
penetrated.
Support Levels
A support level is a price area at which there should be
an increase in the demand for that product. A support
area is not difficult to find in a chart. When the
market is in an uptrend, any previously established
congestion area is the uptrend is usually an area of
support. To draw a support line you need to find at
least 2 points on the chart that adhere to this
criteria. This then forms a line that can be extended
across the chart.
When a support area is penetrated on the downside, it
then may become the nearest resistance area to a
subsequent advance.
Resistance Levels
A resistance level is a price area characterised by
increased selling pressure or increased supply of a
particular investment product which tends to level off
advances. If the market is in an uptrend, any point at
which new highs are reached or any congestion on the
upside will act as resistance. To draw a resistance line
you need to find at least 2 points on the chart which
adhere to this criterion. This then forms a line which
can be extended across the chart.
When a resistance area is penetrated on the upside, it
may become then the nearest support area to any
subsequent decline.
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