Posts
In trading, profits can be gained only when price is moving. Whether moving up or down. That pattern in the price’s movement is called trend. Trend itself very useful and is the most important part in determining your trading position. Because there are only two positions in trading (buy and sell), the trend also has only two types, called: uptrend and downtrend.
Let's look at the picture below:
Try to imagine if we don’t know how to find the trend in price movements. When prices are in downtrend, then you opened a buy position. When the price in uptrend, you’d open a sell position. Well, at least you will not be able to sleep in such circumstances because your current position will cost you a certain loss.So, determining current trend is very important and can not simply be ignored. Try to ignore it, and then your trading will only be a gambling. And the market will kick you so that you’ll feel the pain for many days and sometimes many months. That’s because, you’ve already lost your money.
Most technical analysis is used to predict trends and how long which trends will last. Some indicators such as Moving Average, or parabolic SAR is also used to predict where the market going.
However, there are conditions where the market does not move up or down which is usually called sideways. In such circumstances, a position to buy or sell is just the same. This is when your patience and emotion are being tested against that kind of situation. Side ways situations usually occurs when the United States or the European market is being closed or pending big news. In many circumstances, not so many transaction occurs, so that the situation going side ways. Well, you should avoid the circumstances.
Other terms you need to know is called Support and Resistance. Now let's have a look when a trend is on the way. Let’s say an uptrend. Is there a trend that never ends? Of course, there’s not. Each uptrend will reach the peak point and then stop going up and continued with going down / downtrend. And vice versa, when the price moves down / downtrend, there will be a time when it stops moving down, and start to go up again / uptrend.
The level or condition where the increasing or decreasing movements of price started to stop is called resistance and support. The bottom line is called Support, while upper line is called the resistance.
Both points are very vital in your trading life. Without knowing those points, we can only follow the trend without actually knowing if the time of that trend is not longer valid, and soon be replaced by the opposed trend or maybe side ways.
There are many ways to define a support point and resistance. Some traders use the indicator to find them out. Other uses Fibonacci, while others use the price movement’s history in the past. I do not want to get dizzy about how to calculate the support and resistance using a complex calculation. To me, forex is quite complicated enough, with complex analysis and psychology inside. So, why don’t we just simplify it? Sometimes simple is better.
The easiest way to define and support and resistance is to know the price in the lowest and the highest movement in a particular period, such as a month. Pay attention to the following chart:
The chart above is a graph for GBPUSD on 20 to 26 April 2007 with the period of 1 hour. Note that the price increased but does not move beyond blue line area. When the price moving up to near the 2.0060, it seems to lose its ability to rise again to move past that point and vice versa when it moved down, the price point can not penetrate 1.9970 which is the lowest limit. 2.0060 that is the point called the resistance and 1.9970 is called the support.Both points are actually the reflection of the psychological point recognized by the market at the same time. As we know that with the price movement is basically determined by the law of demand and supply. When the demand increased while supply stay still, the preferred currency's price will be moving up and vice versa. When supply increased, and demand remains the same, the currency will be weakened because there're so many supply of that currency circulating in the market.
Now when the uptrend occurs, for example, the psychological effect will cause one or more events which will make the price to grow up even stronger. When prices began to move up, the trader will usually follow the happening trend (taking the buy position). This will be resulted in increased demand of that currency so that its price will continue to move up.
However, majority of traders are also anticipating the end of a trend by taking a certain resistance point. At that point they're no longer buying, they actually will taking profit by selling the currency that they have purchased previously. Well if all those trader doing exactly the same thing, then current demand of the currency will be reduced and that currency began to lose its power. As a result, price moves down.
So the key here is: how to determine the resistance and support points that represent the support and resistance points at the market collectively. If we know these points then trading would be far easier.
Then a new question now appears in our mind: Can resistance and support can be penetrated by the current price movement? The answer is probably yes. But it should be difficult.
In the market where number of the buyer are smaller than the seller, of course, prices can continue to rise even if it has reached the resistance point. In such circumstances the actual support and resistance of the market can be vary between one and another groups of trader, and it's divided into several groups. One group estimates that the price will not rise passed a certain level while the other think that the price level can rise pass the price first group determined. If the second group win, of course, support or resistance will be broken.
What will happen when the support and resistance getting passed? The answer is there will be a new support and resistance point. Resistance point that's been passed will be the support while new resistance will be formed. Note the picture below:
This is the GBPUSD chart using the daily time frame. We'll see that the price has passed its old resistance. As a result, the price moved even further from the its old resistance until then, it forms a new resistance on the upper horizontal line. The old resistance that's getting passed earlier has now changed to the new support point and the price is now moving on its new range.Now the next problem is how to know that a price that will penetrate its resistance and support point or not. Well, from here on, you should learn several technical analysis instruments, especially the oscillator type. There also needs to analyze fundamental situation that's currently occurred. Not easy indeed. Some of those knowledge can only be gained after many years trading (such as: determining critical support and resistance point). So, experience is clearly an essential thing for traders.
Now, we'll enter the next point of technical analysis lesson. It is a term called overbought and oversold (OB and OS). OB and OS is a situation where prices can not continue to move according to its trend because the price's already too expensive or too cheap, so that the trends can not proceed furthermore. Unlike the support and the resistance, which is more likely just a psychological level that's basically just agreed unofficially among the trader, OB and OS itself is a situation that happens in the real market (not just the psychological).
If a rising trend taking place, then in the circumstances this currency becoming more expensive than usual. If we find a chart of GBPUSD are rising up, for example, that means GBP price are becoming more expensive compared to USD value. The market continue to pursue GBP because its price are expected to continue go up.
But there will be a point where the buyer may not buy again because GBP is already too expensive. Not only the market's opinion that the price is too expensive already, furthermore their capital could no longer sufficient to buy GBP in a certain amount. Now the situation is called Overbought or OB.
Conversely, when the downtrend occurs, there will be a point where prices will stop going down because selling price is too low, so that the seller might not sell the currency anymore. This is called Oversold the OS.
When the price reaches the point OB or OS then price is expected to change its movement / direction and current trend will stop soon. So when price is moving up and OB area has been reached, then that uptrend will stop and replaced with the downtrend. Similarly when the price moves down and enter the OS area, then the price will stop going down and will be replaced with uptrend.
Often OB and OS also occur on the Resistance and Support, because both point are the trend counter. But it's not always happening. Of course, buy and sell decisions will really be vital if the price is not at those extreme level.
Now the question is how to determine the OB and OS? The easiest way is to use Oscillator typed indicators such as RSI or Stochastic. These indicators are designed to determine the OB and OS.
Let's use one of those indicator: Stochastic Oscillator. On Stochastic, OB area occurred when the Stochastic is on level above 80, and OS occurs when the Stochastic is below 20. note the following chart:
Area colored orange is overbought or oversold area. You can see a red circle on the chart. When prices move down and touch the oversold area, the price will move back up because price is already too cheap to be sold by the seller. The same situation also occurs in the overbought area.More detailed lesson about Stochastic will be presented in the next lesson of the technical analysis. Please be patient.
Now we can estimate when a trend ended and replaced with the next trend. Thus we can set the correct timing for opening the position better.
See you at the next lesson.
