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Identifying the trend

The most important element in the market that either a novice or an expert trader must be able to assess is the trend. Everyone knows common expressions used by traders since ages: "Trend is your friend", "Go with the flow", ... by following the trends you simply increase your odds to have a winning trade, either you invest on the long, medium or short term.

Even if you enter the market for a few pips, although on a very short timeframe (15 minutes chart) market is hugely volatile, you still have more chances making money by going with the flow rather than against it.

The article below helps you understand how to spot a trend, and I must say that I have encountered veteran traders that still don't know half of what is featured here below. Hope you appreciate what I am offering.

Spotting the trend:

What is the current trend ? You will see a lot of people taking things simply, and answering you "check your chart, if the first price is on the bottom left, and the last one is on the bottom right, then it's an uptrend". Well that's a rather poor starting point, although this "technique" is far more accurate than assessing the trend only by looking at indicators.

In fact it is a little bit more complicated, having price going like a straight arrow up does not mean that we are facing a trend. A trend is always punctuated by corrections; no corrections means no trend. Also a tiny correction in huge up move is not to be considered, and assessing if this correction is relevant or not is important to spot a trend. I am attaching below a simple pattern for our review:

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Here we have prices going in a straight arrow up, this is a typical example of a move generated by important market news. Investors panic, stops are hit continuously, market sometimes moves unexpectedly. With regards to assessing a trend, there is nothing to be deducted from this pattern alone. Why am I just looking at these 6 candles and not the "whole picture" ? Well this is thought in another lesson "Selecting the right timeframe" that I invite you to read when you are done here.

As I said earlier on, without corrections there is no trend.

To identifiy an uptrend we need at least two tops, the second one being above the first; and the at least two bottoms, the second one being above the first as well.

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The picture on the left represents a trend where the second bottom is higher than the first, and the second top is higher than the first as well. Should the second top be lower than the first then it is not possible to state with certainty that we are currently facing a trend.

 

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All above patterns represent uptrends. On the last picture you can notice that the last move went below the previous low. This does mean that the current uptrend is not that reliable anymore, but we are still in an uptrend nevertheless. This last move is most probably a correction in the same fashion than the two previous correction we can notice on this picture.

Should this last move cross not only the last bottom, but the previous one as well, then we do have a trend reversal, hence a downtrend.

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The above picture features a double-bottom pattern (B1 & B2) at the beginning of the trend formation. In this case we use the second bottom (B2) to assess the beginning of the trend (and here identifiy an uptrend). Theorically we can state with certainty that we are facing an uptrend after the first dashed line has been crossed. In this case this is where it is also advisable to go long.

Unfortunately as you may have noticed assessing the trend "visually" means that you may miss the initial upmove that forms the trend. But this happen as well when you look at indicators in order to interpret the trend, such as with the Moving Average which shows the trend with even a greater lag (or delay in time). 

The trend must always de OBVIOUS, if a trader takes more than 2 seconds to identify a trend, most probably there is no trend (either we are in a market range, or simply nothing worth noting from the chart).

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As demonstrated on the picture on the left, most of the time a range has two tops and three bottoms, or vice versa. It is usually not advisable for a beginner to trade in a range. We will see later on that a range can also simply be defined by two tops and one bottom, by tracing a clear V or reversed V formation.

Finally there are patterns that show neither a range, nor a trend, meaning that no market direction can be deducted from them:

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The first pattern above might have shown a range if the down move had reached the same level than the previous up move (V formation), but as it is on the picture no market direction can be assessed from it. The last pattern shows what may be the beginning of a new trend if the last up move break upwards the last top, but again as it is on the picture nothing can be deducted from it. 

Trendlines:

Tracing trendlines is something you must master as a beginner, but afterwards you will understand that using trendlines is too archaic and that one should only resort to the “Standard Error Channel” indicator which traces trendlines most accurately and without subjectivity. Still, if you are a hardliner and wish to trace trendlines manually you should take at least an hourly chart and the trendline must take into account the High and Lows on candlesticks and not the opening / closings. At least two tops are needed for a resistance, and two bottoms for a support.

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Stronger trends tend to move on 45 degrees trendlines other trendlines are much weaker.

Tracing a Standard Error Channel is quite easy, most of the charting software include a SEC, just select the Standard Error Channel tool and pull it from the first point of the analyzed chart to the last point. The Standard Error Channel will provide you with the most objective resistance and support of the timeframe you are analyzing.

The Standard Error Channel trendlines, as well as conventional trendlines are said to be broken if the market closes two candle above the resistance, or below the support. Should be there only one closing (lets say the current candle is closing below the support, and the previous one was above) then you should not trade the break of the trendline.

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The first picture above shows a trendline being broken by only one bearish candle, one show wait for the second confirmation break (second picture) before going short. You must know that trading trendline breaks without checking other values yields no more than 55% of profitable trades. It is not as reliable as it used to be.

The same logic applies to moving averages, which are believed to be "moving resistances and support", in order to state that the market is now moving upwards, one should wait for two closing candles above the moving average, and two closings below the current moving average for a market moving downwards.

A broken trendline does not indicate a change in the trend.