Trend Lines - They May Look Simple But Think Again

Most traders make a hash out of drawing trend lines

I talk about this subject quite a bit. Many traders think I'm nuts. After all, trend lines are the most simple of all analysis techniques aren't they? You don't need training to draw a trend line.

Well, if that was the case then you wouldn't see so many technical analysts making a complete pig's ear of them.

This is the sort of chart I am used to seeing:

Most traders seem to work on a hit and miss basis, drawing as many lines as they can and hoping that one of them will work. The mistake they generally make is that they don't actually draw trend lines. They only draw lines and on that basis, since they are not drawn on a trend, they will fail.

There is no benefit from drawing lines without any logic to them. When they are drawn correctly they provide significant benefit and often great trading opportunities. However, these occur very infrequently.

So how should a trend line be drawn?

First of all, before providing examples, let's just consider the word "trend". Just what is a trend? Well, by definition a trend is a sustained move in one direction and is accompanied by a very simple concept:

• Up Trend = A series of higher highs and higher lows
• Down Trend = A series of lower lows and lower highs

Note that in an uptrend both lows and highs move higher. It is common but not a rigid rule for a support line to be drawn across the rising lows.

Note that in a down trend both lows and highs move lower. It is common but not a rigid rule for a resistance line to be drawn across the declining highs.

Now look back at the first chart and see how many times the lines were drawn on trends... Perhaps once it occurred.

When drawn correctly this is what will happen...

You can see how in this chart of USDJPY how both highs and lows were declining and once price reversed back above the line we saw a sustained reversal.

However, in many cases the break of the trend line will occur followed by a retest of the trend line. The retest will provide an excellent opportunity to establish a position on that test.

The other tip is not to necessarily draw trend lines from the lowest low or the highest high on the chart. Quite often the lines that provide the best signals can be drawn across what I term an "intermediate trend." What I mean by this is that quite often a trend will occur within a particular wave pattern. Without getting too deep into the topic of Elliott Wave, consider an entire trend will come from the 5-wave sequence of 1, 2, 3, 4, 5 and possibly the trend can be drawn on Wave 5 only. This can be the provider of the final retest on which you can establish a position.

An example of this is shown in the chart here.

First most traders will draw the line in red. Invariably this will rarely provide any profitable signal so only draw these lines once you have been able to identify the line having touched price a minimum of three times.

Note that price declined in three sections which I have labeled (a), (b) and (c). Across the declining peaks in the move lower in (c) I have drawn a resistance line which has touched price three times (the minimum I will accept before I consider the trend line as valid.)

Note how price has subsequently broken above the trend resistance line and after the first move higher it reversed to retest the trend line which provided an excellent buying opportunity.

When a trend line is broken the retest is quite common and is a useful feature of a trend line that has been drawn correctly. By breaking above the last peak in the decline (at touch number 3) we can confirm that the trend in (c) is complete and should then trigger a deeper pullback.

By adhering to these guidelines the results you get from you trend lines will be much more profitable and you will be able to have more confidence that the line has a greater chance of providing a solid signal.

However, I should add that in my daily analysis across several currency pairs I often have no valid trend lines drawn. In reality they occur very infrequently but are more productive when applied accurately.