What is a trend line in Forex? Trend lines in general are pretty important to trades. Why you may ask?
They give us a ton of information. Like price channels, support and resistance. Both angular and horizontal. Let's take a look at how a trend line in Forex can be really helpful to us.
What is a Trend Line in Forex?
- A trend line is Forex is a line that gives us the trend a currency is moving. That sounds pretty simple right? Trend lines might seem simple. However, if you draw them wrong, you're trade can really suffer from it. Therefore, let's look at how we can accurately draw a trend line in Forex.
1. Drawing Tools for Technical Analysis
Drawing tools are an important part of technical analysis. They help to draw the trend lines, identify price channels and price patterns that provide vital information on the future price movement.
The trend lines help the traders to identify the support and resistance areas and plan their trades accordingly.
Traders also use multiple trend lines to draw price channels and various other price patterns like flags, wedges, and so forth. So let’s find out more about the trend lines.
2. A Trend Line in Forex
A trend line in Forex refers to the analysis of an asset that relies on visually spotting different areas on the chart. These areas hold valuable market information and by connecting these areas the trend lines are drawn.
Once a trend line is drawn traders use it as a reference point for the future price movement. But before we go into more details you need to have an idea about the trending markets.
The markets will either trend higher, lower, or simply move in a sideways direction. In an up-trending market, the price of an asset continuously rises and makes higher highs and lower lows.
Similarly, in a down-trending market, the price of an asset falls and makes higher lows and lower highs.
Finally, the market may also move in a range and this is called the sideways trending market or the ranging the market. Now that you have an idea about trending markets let’s see how trend lines in Forex can help us.
How to Draw a Trend Line in Forex
- There are mainly two types of trend lines; which are the angled and horizontal trend lines. These trend lines can be drawn in a trending or sideways market to identify the potential support and resistance areas. To draw a trend line in Forex in an upwards trend you need to look for at least two lows and connect them in the direction of price. This'll draw an angled trend line. Now to draw a trend line in a downtrend you need to spot at least two highs and connect them to draw an angled trend line. Similarly in a sideways market, you can spot two swing points and connect them to draw the trend line. In a sideways market, the trend lines are usually horizontal.
1. Trend Line Facts
- When drawing a trend line always connect at least two swing points.
- A line that does not fit is unlikely to be a valid trend line.
- Trend lines are not absolute barriers and they are often breached.
- A trend line that is tested multiple times is considered stronger.
- A trend line can be drawn in any period as long as it connects two swing points.
Now let's take a look at the example of the EUR/USD chart below. A trend line is drawn in an uptrend that started around 1.0600. The price followed the uptrend and tested the trend line support a couple of times but it remained intact.
However, near 1.1050, the price started to move lower and finally broke the trend line support at 1.1000 confirming a reversal. Following the break of the trend line, the price fell further towards 1.0800 before making a slight recovery.
So to summarize, the trend lines can be used to identify the support and resistance areas. But you should always remember that just like any forecasting system the trend line can also produce fake signals.
For instance, a trend line can be broken in an upwards trend but the price may go back up and follow the original trend. Therefore you must confirm the signals using other technical tools indicators.
2. Price Channels
Another way of using a trend line in Forex is by drawing the price channels. A price channel is very much a combination of multiple trend lines in fact the trend lines are the integral components of a price channel.
So a price channel has two trend lines and to put it more simply you can define a channel by drawing two parallel lines at the same angle in an uptrend or a downtrend market.
Similarly, you can also define a price channel in a sideways market by drawing two horizontal trend lines that are parallel to each other. The trend lines in sideways price channels are usually not angled.
The price channels are just another way that traders use to determine the buy and sell zones because, in reality, they are a form of support and resistance.
But before we go into more details you need to know that the trend lines in a channel should be parallel to each other and if they are not they can lead to a false signal.
That's why you should never force the trend lines to fit in a price channel and also follow the basic rules of drawing the trend lines.
3. Reading the Signal
So by far, we know that a price channel has two parallel lines that act as support and resistance, and a channel can be formed in up-trending, down-trending, or even in a sideways market.
Now let's see what signal they give us and how we can use a trend line to trade the Forex markets. To put it in simple when the price reaches the upper or lower trend line of the channel you can start looking for confirmation to buy or sell.
A common understanding is that when the price reaches the bottom the bulls will intervene and take the price back up, in other words, it’s a bullish signal.
Likewise, when the price reaches the top the bears would push the price lower so it’s a bearish signal. These sorts of signals are produced regardless of the prevailing trend because the price of an asset does not follow a straight line due to the struggle between the market forces.
For example, if the price of an asset is rising the price would drop even a little bit before going up again. So this is the fluctuation that traders use within the price channel to buy or sell the currency pairs. It's worth noting that a signal given in the direction of the on-going trend is a stronger signal.
Do Trend Lines Work in Forex?
- Can a trend line in Forex work? Absolutely!! In fact, not only does it show patterns, it shows support and resistance. And we all know, support and resistance is one of, if not the most important things you can learn as a trader. As a result, you need to learn how to properly draw a trend line in Forex.
1. A Trending Market
During a trending market, the price of an asset can also enter into a consolidation or sideways period. This is where the price channels also comes in handy.
As when the price breaks up or below the sideways price channel you'd know whether the price is following the on-going trend or changing the direction.
Let’s now take an example from the EUR/USD chart below. The pair started to trend higher from 1.06500 and we formed a price channel around the same time.
When the price was trending up it tested the upper and lower levels a couple of times. You can see the price touched the lower line at 1.0750 and moved back up towards 1.1050. In fact, it was the first buying signal.
As the price was going up it touched the upper level 1.10500 and once again dropped from there. So, if you had taken a long position at 1.0750 this would be your exit level.
Otherwise, you could also plan to sell the pair at 1.10500 as you can see the price once again came back to the lower level. Therefore, you can see how a trend line in Forex works well.
2. A Trend Line in Forex During a Sideways Market
We've also discussed the price channels in a sideways market. To understand more let's take an example from the EUR/JPY chart below. The EUR/JPY was falling until it paused and entered into a sideways period around 121.000.
You can see the price moved between the sideways channel for several sessions before it finally closed above the upper side of the channel.
Which confirmed that the downtrend has ended. A signal like this confirms an entry point for a new long position or an exit point for existing short positions.
Another good example of how to use a trend line in Forex.
A Trend Line in Forex Conclusion
Do you see now how a trend line in Forex trading is really helpful? They can tell you a lot about the direction of a currency as well as a stock. Which is helpful when you're trying to trade the correct direction. As a result, learn how to properly draw trend lines.