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We’ve all heard that the "trend is our friend" and that we should always "trade in the direction" of these friends but what exactly are they?
Getting in on these trends as early as possible and staying with them as long as possible is at the heart of many successful trading strategies.
No matter what technique you use for identifying likely trends, it is best to use a clear and consistent definition of what constitutes a trend when analysing charts.
UP Trend
Each successive trough (support) must be higher than the one preceding it and each successive peak (resistance) must be higher than the one preceding it.
DOWN Trend
Each successive peak must be lower than the one preceding it and each successive trough must be lower than the one preceding it.
RANGING
When the market is in this condition, successive peaks and troughs are horizontal.
Bianca identifies trends by using channels. The channels are quite straight forward and show the trend’s strength (slope or gradient) and the volatility of the share within that trend.
This method is made up of two stages, firstly the slope is identified by drawing a straight line that best fits the share price chart, secondly the volatility (distance between successive peaks and troughs) is used to draw parallel lines either side of the trend line to show a trading range channel.
Finally Bianca analyses the channel and calculates where the current sp is relative to the channel bottom (support) and channel top (resistance).
Trend Strengh
Bianca analyses the share chart and calculates a straight line which "best fits" the chart data.
Trend Volatility
Bianca then draws parallel lines to this trend line and uses the share’s volatility to work out the channel width.
Share Price position
Bianca then does a further calculation to determine where the current share price is relative to the channel.
When talking about trends, the timeframe of the trend is very important.
Most people prefer a long, medium and short term view of their charts and for the purposes of trading and investing. The time periods of 50 days, 20 days and 10 days seem to suit this the best.
Bianca calculates the trend channels over the last 50 days, 20 days and 10 days as shown below.
50 Day Channel
The 50 day channel uses the last 50 trading days of closing prices to produce the blue 50 day channel.
20 Day Channel
The 20 day channel uses the last 20 trading days of closing prices to produce the green 20 day channel.
10 Day Channel
The 10 day channel uses the last 10 trading days of closing prices to produce the red 10 day channel.
Once the 50, 20 and 10 day channels have been drawn, there are many patterns which emerge.
There are too many to cover here, but there are three main patterns which can be useful to spot for the purposes of investing in shares.
No pattern will tell you 100% that the share will continue rising, however the idea is to put probability in your favour that the chance of the share price rising is greater than it falling.
Strong Uptrend
This is a powerhouse type of trend pattern where all the trend channels are going up and roughly the same slope.
Uptrend Correction
This is a retracement pattern where there has been a retracement in the longer term trend but it is now recovering.
Downtrend Reversal
This is a downtrend "breakout" where a strong downtrend may be coming to an end. The short term trend is up and the medium term trend is levelling off.
Example
Trading trends
All this allows us to return to one of the quotes at the beginning
"Always trade in the direction of the major trend"
Many people try and short into a rising trend thinking that the trend must reverse ...
However in many cases it would be more profitable to just trade in the direction of the current trend until it reverses and starts to break down.