What am I talking about? – Good question. To put it very simply, I’m talking about the value of looking at multiple trendlines in order to:
- Determine the trend
- Determine the strength of a trend
- To identify potential trade entry or exit points by identifying strong levels of support or resistance in a market
What? You mean trendlines can help you do all that? – Yes, that’s exactly what I mean.
One of the oldest trading adages is, “Trade with the trend”, or, “The trend is your friend”.
Well, here’s the thing: Even if you’re not interested in trading with the trend, if you prefer taking contrarian trades looking for a change in market direction, it will still improve your trading success to know where the trendline levels are and to identify convergence of multiple trendlines. What’s convergence of trendlines? – Just give me about two or three paragraphs here to cover something more basic, and then I will happily explain the concept. Don’t worry, it’s an easy concept; you’ll get it with no problem. You can also the approach to currencies by Warren Buffett.
Drawing and thereby identifying trendlines is simple enough – a basic trendline is constructed by just drawing a line connecting across either the lowest low prices (for an uptrend) or across the highest high prices (for a downtrend) over a given time period. Look, here’s one now, an uptrend trendline, in red, on a 4-hour chart of the Aud/Usd pair! You can easily see that the current price is well above the trendline, and therefore price could retrace substantially – all the way back down to around the .7100 level – without violating the basic uptrend that’s indicated.
Moving average lines can also be used as trendlines. Here’s the same chart with 10 (dark blue), 50 (light blue, thick, dashed lines), 100 (red dots) and 200 (yellow, thick) exponential moving averages (EMA) plotted on it. Notice how the 100 and 200 moving averages are close to each other and also, for the moment anyway, basically running along the trendline that we drew earlier.
THAT’s convergence of trendlines.
Convergence of Trendlines
Convergence of trendlines is simply when two or more trendlines come together. That can happen in one of two ways:
1 – Different trendlines on the same time frame, such as the trendline of a 10-period moving average and the trendline of a 50-period moving average on a 1-hour chart, can converge – draw close together or even actually meet at a certain price level
2 – Trendlines are drawn on different time frame charts, such as a 1-hour chart and a 4-hour chart, can converge around the same price level
You can easily see an example of point “1” that I already alluded to in the chart above. Now let’s see if we can find an example of point “2” by looking additionally at the 1-hour time frame chart.
Okay, let’s see what we can see. Notice that the basic trendline, as it appears on both the 4-hour and 1-hour chart, runs down around the .7080 to .7100 level. Now, how is that helpful? Well, for one thing, the multiple trendlines running along the same level represent additional trend strength at that price level. Secondly, that level might be a good point at which to place a buy order attempting to enter the market. I know, I know - you see a market turn and move significantly to the upside and you want to jump in and capitalize on it. But the fact is that both time frame trendlines show that price has run well above the trendline. The odds are that it will back off, retrace downward a bit, that price will at some point test those trendlines. And that’s another good piece of information to have: If price were to decline well below the existing trendlines, especially on a daily close basis, then one should consider the possibility that the trend will not last long-term and that the market may turn back to the downside. It might be reasonable to place a stop-loss order somewhere perhaps just below the .7020 level, about 60 pips below a .7080 entry point.
Okay, so we’ve identified multiple trendline price levels, possible buy entry points, and possible stop placement, potential market reversal indication price levels.
You can analyze other points on the charts, too. Notice that the 100 EMA on the 1-hour chart roughly coincides with the 50 EMA line on the 4—hour chart, both coming in around the .7160 level. That, too, can be seen as multiple trendline convergences, and identifies another potentially important price level that may provide support for the market. Also read the Simple way of trading multiple time frames in forex.
The Significance of Converging Trendlines
Trendline convergence is important, (A) because it provides an indication of where the trend is stronger, and (B) because it provides an indication of greater overall trend strength when multiple trendline convergence occurs. Conversely, however, if there is not any trendline convergence, or if in fact different trendlines drawn on different charts and across different time frames show conflicting trend indications (like an uptrend on a 15-minute chart, but a downtrend on a 1-hour chart), that is an indication of trend weakness.
Rolling Up Trendlines
One of the best indicators of a developing long-term trend is what I refer to as “rolling up trendlines”. That phrase refers to trendlines that begin turning upward first on the lowest time frame charts – like 5-minute or 15-minute charts – and that then receive longer-term confirmation as the trendlines on ever higher time frame charts – 1-hour, 4-hour, daily and weekly – also begin to turn upward in succession, so that eventually all time frame trendlines are pointing in the same direction.
Rolling down trendlines refer to the gradual time frame succession of trendlines turning to the downside, first on the lower time charts and then on the successively higher time frame charts.
Going in either direction, increasing confirmation of trend on successively higher time frames represents very strong trend confirmation.
The Problem and the Solution
It’s somewhat problematic, however, to be continually checking back and forth across half a dozen time frames looking for multiple trendline convergence. It’s just a lot of work, one of those things that you just naturally start to wish could somehow be automatically indicated to you. Plus, it’s easy to miss something, looking at multiple indicators on several different charts.
Hope this article is helpful for you. If so, please feel free to share it around social media and help out other traders.
And keep on coming back to Winners Edge Trading, because we will keep on sharing all the helpful trading tips that we can think of. (And we can think of a LOT of them, trust me.)
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