Forex Trend Lines 101 Learn How Traders Spot Profitable Opportunities
Trend lines are one of the most frequently used tools in technical analysis, and for good reason. They help the trader to see the intended movement further out, which allows them to understand market structure and forecast potential entry and exit points. Trend lines are like a roadmap that illustrate where the market has been, and where it may potentially go next.
Let’s just say this at the outset: trend lines are not magic crystal balls that provide a peek into the future. Markets are inherently random, and due to that, even the best drawn trend lines will fail. However, if utilized correctly, they can help you clearly structure your thought process and allow you to trade with increased confidence, as opposed to guessing.
What Is a Trend Line? Definition and Types Explained
A trend line is a purely straight line that connects two or more price points to demonstrate the direction of market movement. You are quite literally drawing a line connecting dots, however, instead of forming whatever that picture may be, you are disclosing the momentum of the market.
Uptrend Line: This is a line that connects a series of higher lows indicating that buyers are stepping up at progressively higher prices. This can be thought of as climbing stairs; each stair higher than the last. This acts as support that suggests that the market wants to go up.
How to make Trend Lines the Correct Way (Step by Step Directions)
You need at least two valid points to establish a trend line, but three or more touches will see it become very reliable. You cannot have an adequate support structure (a trendline) without proper support points (or anchors). To go a step farther, if your trend line has isolated at least one other point again, when price is on it, it is sold significantly more reliable, structurally.
Common mistakes of beginners are to just pick two random points when drawing the line. Make sure you are connecting significant highs or lows and not simply some random high, which could just be a filling, or small movement. It is also always better to use a closing price if the trade is available rather than just focusing on the wicks, or the thin lines above and below the candle, representing where price fluctuates during the time period.
How to Use Trend Lines in Forex Trading (Practical Applications)
An uptrend line will act as a safety net. If prices retrace back to touching this line, they will often bounce back higher. When traders see a price on an uptrend touching the line, they often see this as a buying opportunity and will put their stop-loss just below the trend line in the event it breaks the trend.
A downtrend line works in the same way but, instead of a safety net, it works like a ceiling. When prices move to the highest high, the prices will typically get pushed back down. When they touch the trend line, it's an opportunity to sell with a stop-loss just above the trend line.
Limitations and Mistakes in Trend Line Trading
If you asked five different traders to draw trend lines on the same chart, you would likely get five different trend lines. One trader draws the line based on connecting the absolute lows of the price action, and another trader draws the trend line with closing price action in mind. This subjectivity means that your trend line is not necessarily the "right" trend line, and that's okay. Just be consistent with how you draw your trend lines.
Imagine this: EUR/USD breaks below a major uptrend line, so you sell the EUR/USD expecting price to continue down. Instead, as soon as price breaks below the trend line, price rockets back through the trend line to the upside, and you get stopped out for a loss. This is a false breakout, and these happen more often than you would like to admit.
Case Studies: Examining Trendline Analysis in Forex and CFD Secondary Markets
Let's take a moment to review some real-life examples of how trend lines actually played out in the major Forex secondary markets. These case studies illustrate the power of trend line analysis and sometimes its limitations.
During 2017 and early 2018, the EUR/USD currency pair formed one of the cleanest up trend lines of recent history. The start of this bull run was formed initially from a low in January 2017 at approximately 1.0340 and the currency pair found support along the trending line as it connected most of the higher lows into an overall trend.
Conclusion
Trend lines are the compass for traders; they help us navigate by providing direction and possible turning points; however, like any compass, trend lines work best when used in conjunction with additional navigation tools and sound judgment.
Remember trend lines: they help identify market direction; they provide natural support and resistance levels; and they provide logical levels for entries and exits. This is true in all time frames and in all markets, including major forex pairs, softs and commodities, and cryptocurrencies.
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