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Trading 101

Trading 101: Trends and a Basic Trend Following Strategy

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“The Trend is Your Friend”

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Being one of the oldest, and probably overused, trading axiom, this is all too often overlooked by new traders. Still, if you are using technical analysis – whatever asset you are interested in – the first thing that you should be looking for is the prevailing trend. Why? Because the trend is the single most reliable predictor of a position’s success. Trading in the direction of the trend, also called trend-following, significantly increases the success rate of your positions, although it doesn’t guarantee that you will be profitable in itself.

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Trading against a trend on a given time frame is like running into a strong headwind, while trading in the direction of the trend is like enjoying a pleasant tailwind. Without a doubt, trend-reversal strategies can be very lucrative, but they are more for the experienced trader, as the success rate of those plays is low.

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How can a strategy be lucrative with a low success rate, you might ask. It’s simple; several small losing trades and one huge winner that can turn into a long-term position might make those strategies attractive. But that’s exactly why they are for more seasoned players—for a beginner, it’s hard enough to make profits with a high success rate strategy, let alone endure the frustration of numerous losing positions.

So, for now, we will take study the simplest trend-following strategies and look at real-world examples of how to use them. Let’s start with job number one, identifying the trend.

The Three Types of Trends

For some, speaking about three distinct types of trends might be a surprise. But rising and falling trends don’t cover the whole picture. The third type, neutral trend, is as important as the two obvious market phases. In fact, on average, neutral trends account for as much as 60-70% of the price action of a financial asset. Understanding that will help you make sense of the day-to-day movements of your preferred assets, as well as the changing profitability of certain strategies over time.

The trends are different in many characteristics too; volatility, liquidity, the suitable strategies, the ease of trading… all of those change when the underlying trend changes. On an interesting note, there are “fake” rising and falling trends, as some assets move inversely compared to the market. Without getting into details now, some ETFs, currency pairs, and even commodities (mainly gold) tend to gain when stock markets fall and negative sentiment is dominant. This will lead to rising trends with bearish characteristics and falling trends with bullish characteristics. First, we will take a look at a generic advancing trend.

Rising Trends

Swing-lows and swing highs inside an uptrend in the S&P 500, 4-Hour Chart

As you can see on the chart above asset prices move in rising and falling “waves”. When a rising wave ends, we talk about a local (or swing) high or top. Conversely, when a falling wave ends, it’s called a local (or swing) low or bottom. These highs and lows are very important in trend analysis. Simply put, a rising trend on a given time-frame means that the asset reaches higher highs and higher lows with wave after wave.

Of course, real life trends are more complicated than that, but this simple analysis method is remarkably effective when judging the state of a market, even if irregular swings mess things up sometime. On another note, there is undoubtedly a subjective factor in defining highs and lows that could lead to somewhat different interpretations of the same price action.

With time, all traders develop a “feel” for swings that helps them in making quick and effective decisions. As you will see, identifying swing lows and swing highs is also essential for other analysis tools like trend-lines, divergences, support/resistance levels and so on… This means that every trader will have a slightly different analysis of the same asset even if they follow the same principles. Trend analysis (and technical analysis in general) is sometimes more an art than an exact science. That said, the strategies and the underlying logic remain the same for everyone, and in the long run, these small differences don’t matter that much— a trader’s success depends more on discipline and consistency.

The Characteristics of Rising Trends

A rising, or bullish, trend is generally a steady period. Volatility is low, trading volumes are also relatively low, and the steady rising waves are interrupted by short and usually shallow counter-trend moves. An increase in volatility or unusually high volumes might be interpreted as warning signs that the trend is about to end.

Trading in bullish trends is probably the easiest, but the least “exciting” for traders. Psychologically it can also be challenging to enter these trends, because of the shallow nature of the counter-trend moves, as you have to jump into the trend when ”it’s already up so much…”. As another old adage says,

“bulls markets won’t let you in and bear markets won’t let you out”.

Don’t worry we will help you in fighting those difficulties with our coming posts.

A basic swing trading strategy

Our first strategy will be a very simple one with lots of room for refinement, but the basic logic is the foundation of a vast number of profitable strategies.

  • Enter the trend when the price closes above a new high (surpasses the prior swing high)
  • Set the stop-loss at (or below) the prior swing low.
  • Move up the stop loss on every new swing low

Let’s take a look at our previous example for entry and exit points according to this strategy:

Entry and exit points of a basic swing trading strategy S&P 500, 4-Hour Chart

As you can see the strategy gives two clear entry- and exit-signals that capture a healthy chunk of the bullish moves, without any refinement. That said, the exits are far from being optimal, and position-management techniques could boost the returns of the strategy as well.

This strategy is designed to benefit from strong trending moves on any time-frame and sometimes it is also used as an “overlay strategy”, meaning that being on a “bullish or bearish swing” is used as a condition to boost the success rate for certain other shorter-term strategies.

The Characteristics of Falling Trends

Now that we introduced swing lows and swing highs, identifying falling, or bearish, trends will be easy. As you guessed, a series of lower lows and lower highs defines a bearish trend. Apart from the same structure, falling trends are fundamentally different than bullish trends. Volatility is usually high, price action is vicious, and the counter-trend moves are also wild. In general, bearish trends are much harder to trade, even if the larger moves make them look attractive for the novice trader. In reality, even experienced players can struggle to make consistent profits in falling markets.

Let’s take a look at the chart below to see the differences in practice (method used is shorting):

Entry and exit points of the basic swing trading strategy, USO, Daily Chart

The structure of the bearish trend is similar to our bullish example (with two distinct trending moves and consolidation periods), but especially the counter-trend moves are strikingly different. Volatility is high, and highs and lows follow each other in quick succession. Although our basic strategy remains profitable, actually trading upon these entry and exit points is much harder. Why? Well, in real time, the wild moves and the relatively large change in your profits make things that much more difficult. Also, notice the false entry point towards the end of the period—those are much more common in the volatile environment of falling trends.

Of course, with adequate position sizing techniques, more refined strategies, and risk management, bearish trends can be traded successfully, but beginners should focus their attention on rising trends. You might have noticed the trend-lines that we drew on our example charts. Being the next logical step in trend analysis, we chose to put them on the charts to help you recognize the power of them.

Trend-lines can give you early warning signs for changes in the trend; they can help you in refining your entry- and exit-points, and much more. So in our next post, we will take a close look at trend-lines, and how to utilize them. We will also dedicate a whole post on neutral trends, as they need a bit different approach compared to bullish and bearish trends.

Previous article: What Can You Achieve With Trading?

Next article: Trading vs. Investing

Important: Never invest (trade with) money you can't afford to comfortably lose. Always do your own research and due diligence before placing a trade. Read our Terms & Conditions here. Trade recommendations and analysis are written by our analysts which might have different opinions. Read my 6 Golden Steps to Financial Freedom here. Best regards, Jonas Borchgrevink.

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4.7 stars on average, based on 115 rated postsTrader and financial analyst, with 10 years of experience in the field. An expert in technical analysis and risk management, but also an avid practitioner of value investment and passive strategies, with a passion towards anything that is connected to the market.




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3 Comments

3 Comments

  1. Ershad

    April 9, 2017 at 8:31 pm

    Hi Cser,

    I recently joined hacked and I’m pleased with the level of information provided. I’m a complete new trader with limited expierence and was going to ask if you can help me understand this post better regarding of when to enter the market, what do you mean by ‘prices closes above a new high’ would this be identified by looking at the candels? Also do you by any chance offer maybe 10 mins a day or even a week tutorial by Skype as I’m really interested in trading cryptocurrencies and gold. I already have made an investment into both but I would highly appreciate if you can help me understand trading better.

    Thanks
    Ershad

    • Mate Cser

      April 9, 2017 at 10:41 pm

      Hi Ershad,

      thank you for your comment! We will be offering one-to-one consultations in the near future. We will announce that to all of our members so you won’t miss out on it.

      Regarding the specific question, yes the closing price can be read off the candlestick. A green (rising) candlestick’s closing price is the top line of the green part (body) of the candle, while a red (declining) candlestick’s closing price is the bottom line of the red part of the candle. In this strategy, the closing price determines the entries and exits.

      Feel free to ask anything here until the consultations go live!

      Great trading,
      Mate

  2. SirPrime

    June 18, 2017 at 3:37 am

    Hello Cser.

    I think this kind of strategy is good for any lapse of time, but do you recommend take 1 year of chart or, maybe, 1 month, 6 hours… etc. And about the candles width, it is good to take 15min or 1 hour, etc?

    Thanks,

    Fredy

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Trading 101

A Long-term Investment Strategy with the 200-Day Moving Average

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Moving average

If you are looking for a way to be invested in the stock market during good times, but at the same time have some protection in place for when the next crisis hits, then look no further. Trend-following strategies should then be your friend, and I will here share a simple yet very effective such strategy designed for long-term capital growth with low volatility.

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Aside from my crypto investments, I have long been looking for a low-maintenance investment strategy for the stock market. As I don’t have much time for short-term trading anymore, I am mainly looking to make long-term investments that I can simply buy and forget about.

However, I still want to be protected in case we hit another crisis or enter into a larger bear market. In my opinion, there are lots of risks on the horizon for the financial market. Still, a bull market is a bull market and any good trend-following investor should be invested in it regardless of his own feelings or opinions about where the market should be heading.

The 200-day moving average

The 200-day moving average is one of the most used technical indicators out there, and possibly the most popular moving average, particularly among US stock market investors.

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Because of its popularity, as well as being featured in the media whenever the market crosses it, it works in many ways as a self-fulfilling prophecy. The 200-day moving average has also been in the headlines over the last few weeks after the plunge we saw in global stock markets in the beginning of February. The line then acted as support for the S&P, but a break below it would have been a significant event that many investors would take as the beginning of a larger bear market.

To illustrate this point, let’s take a look at the table below from Bloomberg. It shows six bear markets where losses exceed 20%, broken down by the loss before the market came down through the 200-day moving average and after it crossed the line.

200-day moving average

The question now becomes if you can use the 200-day moving average as an indicator to follow in your own trading. You would buy when the market closes above the 200-day moving average and sell when it closes below.

The answer to that is that it definitely could be used to ensure you stay invested during prolonged bull markets, while avoiding deep corrections and market crashes. However, a problem with all trend-following strategies is what’s known as whipsaws – those times when the trend appears to start in one direction just as it turns again into the opposite direction. This is what kills the profitability of most trend-following trading systems.

Dealing with whipsaws

One strategy for overcoming the problem with whipsaws is to wait a certain number of days after the moving average line has been crossed before you enter your trade. This way, you would filter out a lot of the choppy price movements during times when the market is not showing any clear direction.

For example, one strategy that often is proposed is to buy only when the market has closed above the 200-day moving average line for 5 consecutive days. Similarly, you would sell when the market has closed below the same line for 5 consecutive days. 5 days seems to be a popular choice as it filters out most of the choppy price movements that are happening right around the moving average line.

Depending on what market you test this strategy on, you may find that the absolute returns would have been higher with a simple buy-and-hold system. However, pay attention to what happened during market crashes like the one we had in 2008. If you apply it to the SPY ETF (the ETF that tracks the S&P500), you will see that the strategy then went to cash and you would have been protected against further downside. In addition, keep in mind that nobody knows how deep the next crash will be, all we know is that sooner or later it will come.

Personally, I would rather sacrifice a little bit of my returns for an insurance against a completely unknown risk to the downside. In my view, this strategy is perfect for long-term capital growth while keeping volatility very low and giving peace of mind to the investor during times of market turmoil.

Featured image from Pixabay.

Important: Never invest (trade with) money you can't afford to comfortably lose. Always do your own research and due diligence before placing a trade. Read our Terms & Conditions here. Trade recommendations and analysis are written by our analysts which might have different opinions. Read my 6 Golden Steps to Financial Freedom here. Best regards, Jonas Borchgrevink.

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4.2 stars on average, based on 21 rated postsFredrik Vold is an entrepreneur, financial writer, and technical analysis enthusiast. He has been working and traveling in Asia for several years, and is currently based out of Beijing, China. He mainly follows the stock and forex markets, and is always looking for the next great alternative investment opportunity.




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Trading 101

How to Find Good Swing Trading Set-Ups

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swing trading

Swing trading is often the starting point for those who are looking to venture into trading, and perhaps make the move from being an investor to becoming an active trader. The reasons for this are simple; it involves trading on a medium timeframe which means it is possible to do it while you still have a day job, and it can complement other trading styles like day trading, trend trading, or scalping.

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According to Investopdia, typical holding time for a swing trader is 1-4 days. In forex, we would typically hold our trade for no more than 5 days in order to eliminate the risk of holding a position while the markets are closed over the weekend. For cryptocurrencies however, which trade 24/7, we can adapt our rules and we no longer need to be so strict about the holding period. In crypto, as long as the conditions for holding the trade are still valid, we should hold on to it.

What is a swing in a market?

The market price of a cryptocurrency can be defined as the equilibrium between supply and demand at any given time. It is the price where a buyer and a seller agree to make a trade. Over time, these equilibrium prices can move in uptrends or downtrends or even sideways in a range.

A typical market pattern is for prices to move from contracting ranges to expanding ranges. The shift between these two is called a “break-out,” and this is where we see strong and quick price movements to a new area on the chart.

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One way to look at it is to compare range contraction to a spring that is being compressed. The break-out occurs when all the energy from the spring is released, which may happen either to the upside or the downside. We now have the beginning of a “swing” in the market.

If this break-out is followed by a series of higher tops and higher bottoms in “wave movements,” the market has formed an uptrend. If the inverse is true, we have a downtrend. Each wave is considered its own swing in the market.

As swing traders, our job is to catch the most violent part of this move – the break-out. Some traders choose to hold on to the trade through several swings and thus ride the trend, while others prefer to sell once a pre-determined price target has been reached.

How to spot good potential swings?

For the majority of the time, prices of any tradable instrument move within a certain range. In the stock market, it is often said that the market is ranging as much as 80% of the time.

To scan for potential trading opportunities, one approach is to first look at your charts in one of the higher timeframes, for example the daily or the 4-hour timeframe. Once you spot a promising set-up, switch to a lower timeframe like the 1-hour to look for specific entry opportunities.

Generally speaking, there are three important factors you need to take into consideration when looking for an entry as a swing trader:

  1. Swings should happen in the same general direction as the trend that is playing out on the higher timeframes.
  2. If trading crypto, look for momentum in coins that share similar characteristics as the one you are trading. For example, if you are considering to trade a privacy-oriented coin like Dash, how are other privacy coins like Monero or Zcash doing? In the stock market, look for stocks in the same industry.
  3. Carefully evaluate the trend. Is it getting stronger or weaker? A weakening trend could mean that it is about to change direction, while a strengthening trend could mean the opposite. Is trading volume supporting the trend? Uptrends with gradually increasing volume are considered the most robust.

Timing and win rate

The best instrument to trade is the one that is exhibiting the strongest behavior in its class. So, to use the privacy coins as an example again, pick the one that is trending up in the strongest way among them. This is the coin where you want to place your trade.

In addition to this, don’t forget to adjust and tweak your strategy to the prevailing market conditions. Remember that the win rate of any trading strategy can change dramatically under changing market conditions, and make you go from being a profitable trader to a losing trader.

As swing traders, we need to be aggressive when we spot good opportunities. You cannot afford to pass on good trading opportunities. Make sure that you earn enough on your good trades to make up for the inevitable losses that will come.

Similarly, a swing trader also need to know when to stay away from the market altogether. It is equally important to recognize the conditions you should stay away from, as it is to be aggressive under the right conditions.

Lastly, remember the words of the legendary trader Jesse Livermore: “There is a time to go long, a time to go short, and a time to go fishing.” These are wise words that we all should remind ourselves of from time to time.

Good luck on your swing trading journey.

Featured image from Pixabay.

Important: Never invest (trade with) money you can't afford to comfortably lose. Always do your own research and due diligence before placing a trade. Read our Terms & Conditions here. Trade recommendations and analysis are written by our analysts which might have different opinions. Read my 6 Golden Steps to Financial Freedom here. Best regards, Jonas Borchgrevink.

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4.2 stars on average, based on 21 rated postsFredrik Vold is an entrepreneur, financial writer, and technical analysis enthusiast. He has been working and traveling in Asia for several years, and is currently based out of Beijing, China. He mainly follows the stock and forex markets, and is always looking for the next great alternative investment opportunity.




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Jonas Borchgrevink

A New Trading Strategy? Using RSI and Stoch to find Entry Points

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I started my CFD Journey on Thursday using a few rules that I created for myself. I’m now interested in trying to see if I can use RSI and Stoch in combination to create an even better trading strategy for myself. My previous rules were:

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  1. Only risk max 2% of my bank roll per trade.
  2. Have 0 active positions during the night (first of all, I lose sleep, second; you are charged an interest fee for leaving a leveraged product overnight.)
  3. Always trade on last month’s trend including the previous day(s). If they do not correlate, I will not trade.
  4. If one position is lost, I’ll double the amount (martingale) and do a second trade. I’ll only stop doubling after 3 consecutive losses.
  5. Do not think about lost trade opportunities.
  6. Markets to trade: Dax & Dow (minimum spread).
  7. Stay updated on economic releases prior to entering a trade.
  8. Do not have emotional ties to the money. I like to call them “points”.

Trend following has proven (historically) to be the most sound way to trade any asset. It’s indisputable. However, for CFD trading I never want to leave a trade overnight due to interest fees and sleep. It can be hard to do trend following when you have to be in and out of a trade quick. I got an idea today to try and use RSI and Stoch in combination to find the best entry points for my CFD trading. And my ultimate strategy would be to include it with my number 3 rule:

Always trade on last month’s trend including the previous day(s). If they do not correlate, I will not trade.

In combination with my new RSI and Stoch rule:

Only enter a position when an asset is overbought or oversold shown by both RSI & Stoch at the same time.

What is RSI and Stoch?

The relative strength index (RSI) is a momentum indicator developed by noted technical analyst Welles Wilder, that compares the magnitude of recent gains and losses over a specified time period to measure speed and change of price movements of a security. It is primarily used to attempt to identify overbought or oversold conditions in the trading of an asset.

Many say that an asset with an RSI above 70 is overbought (and should be sold) or if the RSI is below 30 it’s oversold (and should be bought).

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The stochastic oscillator is a momentum indicator comparing the closing price of a security to the range of its prices over a certain period of time. The sensitivity of the oscillator to market movements is reducible by adjusting that time period or by taking a moving average of the result.

Asset with a stoch showing above 80 is considered overbought, and if the asset is showing less than 20 it’s considered oversold.

My mini experiment with the Dax 30 Minute Timeframe

Below is the first crossover I found where RSI and Stoch is correlating going back a few days on the Dax index. Both give a buy signal when the indicators cross their lowest horizontal lines. Then I found out that if I were to sell when either one of the indicators crosses the overbought territory I would be able to Take Profit.

Looking at the Dax index back to January 17th, I would have won six trades and lost two trades based on this strategy alone (RSI and Stoch with a 30 min timeframe). If I were to implement it with my trade following rule, I would have initiated 0 trades during this period (where both the intraday trend and the monthly trend is correlating.) I’m not sure if I’m going to follow these rules by the book, but I’m definitely going to experiment with them the following week and give you an update in my posts.

Have you tried this before? Submit a comment below and let me know how it worked for you.

My trading rules are now updated to:

  1. Only risk max 2% of my bank roll per trade.
  2. Have 0 active positions during the night (first of all, I lose sleep, second; you are charged an interest fee for leaving a leveraged product overnight.)
  3. Always trade on last month’s trend including the previous day(s). If they do not correlate, I will not trade.
  4. If one position is lost, I’ll double the amount (martingale) and do a second trade. I’ll only stop doubling after 3 consecutive losses.
  5. Do not think about lost trade opportunities.
  6. Markets to trade: Dax & Dow (minimum spread).
  7. Stay updated on economic releases prior to entering a trade.
  8. Do not have emotional ties to the money. I like to call them “points”.
  9. Only enter a position when an asset is overbought or oversold shown by both RSI & Stoch at the same time.
Important: Never invest (trade with) money you can't afford to comfortably lose. Always do your own research and due diligence before placing a trade. Read our Terms & Conditions here. Trade recommendations and analysis are written by our analysts which might have different opinions. Read my 6 Golden Steps to Financial Freedom here. Best regards, Jonas Borchgrevink.

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4.2 stars on average, based on 50 rated postsFounder of Hacked.com and CryptoCoinsNews




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