In the previous lessons, we discussed the heart of technical analysis – chart analysis! In this lesson, we discuss trend lines and how they can help you in your analysis.
Trend lines are the most common form analysis in forex trading, it is also one of the most important. These are price patterns you’ll encounter again and again in your trading.
Identifying trend lines doesn’t require any special tools. In fact, the most powerful technical tool you have are your eyes!
Lesson Overview
Trend lines is a common but very important technical analysis tool in forex trading
Trend lines visualize the direction of a price trend – uptrend, downtrend, or consolidating
To draw a trend line, you must find the extreme points in the price chart and connect them through a single line
What is a trend line?
A trend line is a straight line that connects two or more points in a price chart. It is used to visualize the direction of a currency pair’s price and indicate support and resistance.
Simply, this is a way for traders to identify if a currency pair is at a bullish trend (upward line), or a bearish trend (downward line).
A trend line can also move in a horizontal line, this happens when a market is neither moving upwards nor downwards, but rather consolidating.
What are trend lines for?
Trend lines help traders identify areas of support and resistance so they can make better decisions about when to buy or sell their pairs at a maximum profit.
Using trend lines allow traders to determine trends in the currency pair and even help predict future price movements.
How to draw trend lines?
Drawing trend lines is a basic skill every trader must master. It is as simple as connecting dots in a defined period on a price chart.
However, the trick is identifying which points you have to connect. Like many other technical tools, drawing them can get subjective. This is where your knowledge on support and resistance will come into practice.
Support and Resistance: Recap
Support levels happen when there are more traders who want to buy a currency than those who want to sell them. This causes a decline in prices to stop or pause.
Think of the support level as the “floor price” for currencies moving down.
Resistance levels happen when sellers overpower buying interest. This causes prices to peak in a price rally.
Think of resistance as the “ceiling price” in an uptrend.
To identify points in the price chart, you must look for the highest highs (swing high) or lowest lows (swing low) in relation to a currency's support and resistance levels. Each point corresponds to the most extreme points in each decline or incline.
Let’s try some examples!
Say we want to find the lower trendline for USD/JPY from 10:30 AM – 4:30 PM.
First, we must identify the most significant low points every time the price bounces back from resistance. Remember! You have to find the lowest point every time the prices decline.
Refer to the purple dots below.
Now that we’ve identified the lowest points, we can start connecting them.
Once we have connected them, we can identify if it is an uptrend, downtrend, or consolidating.
In this example, we can see that the line goes up! The USD/JPY currency pair is in an upward trend based on their lower trend line.
Keep in mind! Trend lines allow you to winnow out trend lines from the past and extend them into the future. Those trend lines are going to act as support and resistance just as they did and help you in your trades!
What if you can’t connect the dots in a straight line?
It takes at least two points to draw a valid trend line but it takes three points to confirm it. But what if the connecting points won’t form a straight line?
Don’t force it! It simply means the market, or at least the time frame you are trying to find a trend in, does not have a strong enough trend.
If you can’t find them on the chart, it could mean that the market is too volatile and that the trends are not very strong.
Like support and resistance levels, trend lines become stronger the longer they are on the price chart.
Now that we’ve discussed how to draw trend lines, we can learn about trend channels in the next lesson!
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