Trend lines are an obvious tool for technical analysis, allowing us the easiest way to show in which direction the price of a financial instrument is moving.
The Dow theory, which underlies all technical analyzes, suggests that no matter how the price behaves, it will always be in a certain trend. If the price behaves relatively evenly and stays in the same range without showing either an increase or a decrease, then this trend is called sideways or flat. As part of a flat trend, small price fluctuations are possible at which an experienced investor can predict the moment of exit from the secondary trend and the transition to an increase or decrease in the value of assets.
Lateral (flat) trend
The upward or “optimistic”, otherwise called “bullish” trend is characterized by the appearance of a series of upward peaks, with each new peak expected more than the previous one. Consequently, the “low” bearish trend shows points of failure (low price), each of which will subsequently be less than the previous one.
The trend line can be built at two points of minimum or maximum, and the third, confirming, is mandatory. The more points a trend line forms, the more confident and stable the trend itself. The construction points should not be too close to each other in the time interval, otherwise the direction of the trend will not be completely correct. Please note that the uptrend line is plotted below the chart, and the downtrend is above it.
The trend line allows with a sufficient degree of confidence to assert that in the future the price will move in a given direction. The angle of the trend line should be taken into account – its constancy indicates the stability of the trend. A change in the angle of a trend line is called an acceleration or deceleration of price movement. The larger the angle, the faster the trend.
The line of price lows is called the support line. As soon as the price reaches it, it finds market support there and, pushing off, again rises upwards. The line connecting the highs of the price is the line of resistance. The level above which the value of the asset has not yet risen.
If the price exceeds the line of support or resistance, this is a clear sign of a breakthrough trend and changes in trading tactics.
Trendlines are a classic technical analysis tool, however, both bulls and bears have learned to use them in their own interests, creating traps that their opponents and most of the “crowd” in the market fall into. These moments are characterized by an innovation in the line of support and resistance, and then a sharp change in trend in the opposite direction.
We’ll talk about how to identify these pitfalls in one of the following Analyze It materials. Stay with us.