Hi Mark,
I’ll use your chart to explain why I think that your initial statements about trend are wrong. First though let’s have a look at what trends are about and then use your chart to explain how to use them.
A trend is an ever-changing level of support or resistance. It changes in several ways:
1. As time progresses, the level at which a trend is broken changes (if it didn’t it would be a horizontal line)
2. Trend lines have to be appropriate to the type of trader you are and, more importantly, the time frame that you operate over.
3. Trend lines interact with support and resistance, in effect, the convergence of a trend, support, resistance and the price action determines entry and exit points.
4. The breaking of a trend line is
NOT a signal to enter a trade and it is not always a signal to exit a trade, that depends on the trader (more in the examples).
5. The more times a trend is tested and holds, the more significant it is.
Before looking at the charts a couple of points abut support and resistance:
1.
Support is a level at which there is sufficient buying interest to halt the decline in the price action and cause it to reverse and move upwards.
2.
Resistance is a level at which there is sufficient selling interest to halt the rise in the price action causing it to reverse and move downwards.
3. Support and resistance levels become more important the more times they are hit and hold.
4. The breaks of support and resistance are the most common entry signals.
Now a look at your chart and some ways of trading the main trends in that chart:
This is the start point of your chart – we don’t know what the previous history was, but this gives us a start point. A fairly hard bear trend dropping down with the nearby support and resistance marked. At this point I would rather be short than long, although if this was my first view of the chart and I was looking for an entry into the market, my entry would be a close below the current support level.
Now the chart gets more interesting, firstly the trend is broken – decision time for traders.
1. If I am already short in the market, do I close the position on the break of trend? – This depends on what type of trader you are. If you are ‘specialising in this stock’ or sitting on a large profit – some of which you are prepared to forego – then you may continue to be short, waiting to see if the overhead resistance holds and the priceaction continues to drop.
2. If I am already short in the market, but am a purely technical trader that moves from stock to stock, I would close the position with a view to re-entering if the support level is broken.
3. If I am not in the market, but looking for an entry point, this now causes some interest and the closing break of overhead resistance becomes an entry point, with the idea of using a break below the support as a signal to get out again.
Also in this portion of chart we see the overhead resistance broken.
This is a clear buy signal. Those traders that have not closed their positions should do so, and go long. Those waiting on the sidelines should also enter the market. At this point we can draw in the start of the new bull trend, using the first reaction low. We now have a bull market with immediate support and base support.
Throughout October we see the price rise steadily until we get to the point where the price action cuts through the trend.
Again it is decision time – close or let it run? – The same arguments apply, we look for the immediate support and resistance levels, according to your time frame you may decide to close and move on elsewhere, or to hold until that base support level is breached – a personal decision. As it is we now have a stock that is moving sideways, out of trend (neutral) with definite support and resistance levels.
The price action breaks back above the previous resistance, allowing us to move the trend line across to encompass the small range that had formed, we swing from neutral, to bull, back to neutral again. Throughout this period of the price action, the base support becomes stronger and with each subsequent price action move, the trend line can be legitimately widened along the support level to encompass the price action. This period of time would probably be a nightmare for a pure TA flitting in and out of the stock.
The price action breaks back out of the range again and e continue to rise until we get to the point where the price action is back onto the trendline and hovering just above the immediate support with firmly established resistance at the top of the chart.
An important phase for this chart. The price action actually moves straight from bull to bear, not even waiting for a period of neutrality – this shows that the market view is now particularly weak towards this stock (perhaps poor results etc.)
This is a clear Sell signal
We can also see how the ‘Oooh it’s cheap’ mob move in and push the price back up to retest the previous support, which now acts as resistance
(Dead Man’s Knock) – which is also a classic entry point for TA traders. On the close below the support level we can also draw in the new bear trend. We also have a level of support formed around the level of previous resistance.
The pause around the support level continued, creating a pretty firm level of support – however, all this action continued to happen under the bear trend, threatening it at one point, but falling back – allowing us to widen the trend slightly, ensuring that we encompass all the price action. The overhead resistance continues to be unthreatened. At the end of this view, we see the price action break through the support. This also completes the break of the neckline of a head and shoulder reversal with a target somewhere near the base support of the last 6 months.
Finally:
This final chart shows where we are now, still under a bear trend, still looking for the target for the H&S reversal, the previous levels of support and resistance continue to play their part in forming the price action and controlling the trend. Unsurprisingly the recent action bounced off 100 – probably the ultimate psychological support/resistance level in many UK stocks. Personally I wouldn’t be surprised to see to break down to new lows – but that is just a TA opinion based around the H&S reversal. Whatever, if I was interested in trading this stock (which I am not) then I would be ready to take the appropriate action on breaks of trend and support/resistance – my ‘opinions’ mean bugger all, the chart will tell me what to do and when, all I have to do is make sure I have my trade plan ready to go for whatever eventualities are important to me.
So back to my original problems with your first post, trendlines do
not need three points, in an ideal world, we would love to have three points, the more the merrier – and the stronger and more prolonged the trend would become.
Also the thought that ‘everyone buys (or sells)’ because of that trend line, is wholly wrong, the trend line is a function of the interaction of support and resistance levels and it can be broken through periods of neutrality then moved to encompass that price action should it continue to move in the previous direction.
Trend lines are fluid, not set in stone, how you trade around this depends on your own trading style and trade plan.
Oh, and you don’t need that much drugs or alcohol to spot the head and shoulders, not that it is necessary, other than to provide some sort of target for the price action – at the end of the day the trend, support and resistance tell the story.
