In every trending market, whether the trend is up or down, there are Buy Zones and Sell Zones which are divided by Trend Lines. Understanding the Buy and Sell Zones will lead to profitable trades.
Let us take a look at the example below:
The chart above represents the 4 hour of the EUR/AUD which has been in an uptrend. Above the Trend Line is the Buy Zone and below the Trend Line is the Sell Zone of the Uptrend. On the break of the Trend Line; it does not mean it is the end of the Trend; the market may be testing support levels with the Uptrend still in place, creating a pattern of consolidation or a new trading channel.
Trend Lines are also support and resistance levels. They are powerful tools to successful trading. I am aware that everyone has their own style of drawing Trend Lines; whatever your preference the same principles and trading rules apply.
You may now ask " So what happens when the market is within the Sell Zone of an Uptrend ?"
There are a number of scenarios that could be taking place:
. It could be a counter trend trade or retracement testing levels of support.
. The market is exhausted from a huge run and is creating consolidation between support and resistance levels.
. The market is creating a new Channel.
. There is a potential change of the Trend direction.
There are 3 types of Trend Lines:
. Inner Trend Lines
. Outer Trend Lines
. Long Term Trend Lines
Apply them to your charts and you will be amazed to see how the price action of the market behaves at these Trend Lines.
Please note that these 3 types of Trend Lines will appear different on each time frame as will be demonstrated and explained in the article.
Let us now look at an example of these Trend Lines on the GBP/JPY weekly chart.
The above chart represents GBP/JPY Weekly chart.
Have you noticed how the Inner Trend Line is providing strong support? Usually when the market breaks the Inner Trend Line price it has a tendency to move to the Outer Trend Line; and if it does on the larger time frames such as the chart above it would be a huge reversal on the smaller time frames; however, you must be aware of the support levels along the way for profitable trade set ups. If you are trading the 1 hour chart as an example; wait for a full body bear candle below the Inner Trend Line for confirmation and enter on the retest of the backside of the Trend Line which will now act as resistance. Once this is confirmed, price has now gone in the Sell Zone of the Uptrend. Now you need to find the support levels along the way for take profit.
The same is true if the market breaks the Outer Trend Line, it has a tendency to move to the Long Term Trend Line.
Price above the Inner Trend Line is within the Buy Zone and price below the Inner Trend Line has now entered the Sell Zone.
Let us now look at the price action on the GBP/JPY 4 hour chart
The above chart is telling us that price is still in the Buy Zone on the GBP/JPY 4 Hour chart.
Let us now look at Price action on GBP/JPY 1 Hour chart
The above chart illustrates the Inner Trend Line on the 1 hour GBP/JPY chart. You will notice that connecting the lows on this time frame is showing a different picture of the Inner Trend Line from that of the 4 hour chart; correct? Well, when the market broke and a full body bear candle was formed after breaking the trend line; the market retested the backside of the Trend Line before continuing the move down.
Do you see it?
I have used different time frames of the same currency pair to illustrate the price action and how to find high probability trades.
How should you have traded this?
. On the trend line break, enter on retest of trend line.
. Do not enter because you see a candle breaking the Trend Line ; This could be a false break.
. Wait for a full body candle to close below the Trend Line.
. Place your protective stop loss above the previous high.
. Take profit at or before price reaches the Inner Trend Line on the 4 hour chart
NB: Yes the market consolidated which would have tempted you to get out BUT with patience and knowledge of support and resistance levels as the trade progresses; wouldn't you agree that overall this was indeed a profitable trade?
How to determine Trend Reversal
When the market breaks the Inner Trend Line of an Uptrend and falls below a major level of support such as daily or weekly this could potentially be a sign of reversal. If trading a Daily chart; look to see what the price action is on the 4 hour. Why? When the Daily makes a high as an example; the 4 hour chart will reflect a head and shoulder if its major low has been taken out once it has entered the Sell Zone of an Uptrend or consolidation may occur prior to the break of the Inner Trend Line. Once price moves beyond this level of support within the Sell Zone significantly, the market will pull back to create what is known as the "right shoulder". It is important to note that there are times when the head and shoulders are obvious even before the market has confirmed its reversal pattern usually in the format of consolidation as outlined in the chart below.
Let us look at the following example:
USD/CHF 4 Hour Chart
USD/CHF Daily Chart
The charts above is an illustration of the consolidation and formation of the right shoulder (RS) and left shoulder (LS) before the Inner Trend Line break. I have circled the area of the test of the backside of the Inner Trend Line which turned to resistance before the continuation of the downward price movement. Trend reversals are a complete topic by itself ; a subject for another article.
The reverse occurs when the market is in a Down Trend and price moves from the Sell Zone into the Buy Zone.
Let us look at an example of the NZD/CAD 4 hour chart which has been in a Down Trend
The above chart is another example of a high probability trade set up of a Down Trending market when price moved from the Sell Zone into the Buy Zone. As you will observe the Outer Trend Line is providing resistance and only if a full body bull candle is above and not touching the Outer Trend Line, a long position would be valid on the retest of that Trend Line. If the market takes out the previous high, find the next level of resistance for take profit target; It would be true to then conclude the market has begun to make higher highs and higher lows which are the characteristics of an Uptrend BUT always confirming the price action from the larger time frames such as the Daily and Weekly.
The chart below is the NZD/CAD and once you expand the chart you will observe that the Outer Trend Line on the 4 hour is the Inner Trend Line on the Daily. This is a good example of my previous explanation on Trend Lines being different on each time frame. On the 4 hour the price entered the Buy Zone BUT remains in the Sell Zone on the Daily. This signifies the importance of large time frames.
1) When the market moves from the Buy Zone to the Sell Zone of an Uptrend on the smaller time frame example the 1 hour chart, this usually represents a correction. The reverse is true for a Downtrend.
2) Reversal of Trends must be confirmed from daily,weekly and or monthly charts.
3) The 4 hour chart will give the heads up for these reversals as shown in the USD/CHF chart above.
4) Do not enter a trade because the market is breaking the Trend Line; wait for confirmation and enter on the retest of the Trend Line
5) Entry on retest will provide good equity management and placing protective stop loss.
6) Identify the levels of support and resistance for take profit targets.
7) Always remember; the market can do whatever it wants to do. It has absolutely no mercy for Traders.
Lock profits as your trades progress.
I do hope that this article has provided some valuable information for your future trades and if there is a need for further clarification, please do not hesitate to make your comments and or ask questions.
Let us exercise patience and keep our eyes on the profits or better said; keep our eyes on the money.
Good luck to everyone in the month of July...
Thanks for taking the time to read.