Trading With Price Action Alone

Transcription

1 Trading With Price Action Alone The very premise of technical analysis, based on the efficient market hypothesis, is that all the information about a financial product or market is reflected in its price. It should also be remembered that for this very reason, the origins and raison d'être of technical analysis lie in the study of price action. In fact, many purists have taken a back to basics approach to technical analysis having abandoned many tools and indicators including the humble moving average. Price is the most important information that one can obtain from a chart. Everything else on the chart; be it the moving averages, or any oscillators or indicators are but mathematical derivations of price. Price can thus be classified as primary data while any other indicators are a secondary source of information, or merely a creamy layer that assist in the analysis of price. It can be argued, as many purists have done, that these secondary sources of information often serve to distract and obfuscate by cluttering up a chart rather than enhancing the process of analysis. This e-book explores such a back to basics approach to trading, wherein a cohesive trading strategy is presented that is created solely on price action alone. Leveraged trading in foreign currency contracts or other off-exchange products on margin carries a high level of risk and may not be suitable for everyone. We advise you to carefully consider whether trading is appropriate for you in light of your personal circumstances. You may lose more than you invest. We recommend that you seek independent financial advice and ensure you fully understand the risks involved before trading. Trading through an online platform carries additional risks.

2 OANDA Disclaimer OANDA Europe Limited Accounts: CFDs are complex instruments and come with a high risk of losing money rapidly due to leverage. 77% of retail investor accounts lose money when trading CFDs with this provider. You should consider whether you understand how CFDs work and whether you can afford to take the high risk of losing your money. This presentation is for general information purposes. It is not investment advice. Examples shown are for illustrative purposes only and may not reflect current prices or offers from OANDA. OANDA Accounts in All Other Divisions: Leveraged trading carries a high degree of risk and can result in losses that exceed deposits. Carefully consider your financial objectives, level of experience and appetite for such risk prior to entering this market. You do not own, or have any interest in, the underlying asset. This presentation is for general information purposes. It is not investment advice. Examples shown are for illustrative purposes only and may not reflect current prices or offers from OANDA. Past performance is not indicative of future results and losses can exceed your investment.

3 Price Trends Trends tell us the direction in which a market is moving and the regime that is in control of the market, whether it is the bulls or the bears. Trend traders look to capitalize on this by taking a position consistent with market direction, going long when the bulls are in command and going short when bears rule the roost. Trends are determined primarily from an analysis of the price action and can be classified into three categories. These are; an uptrend, a downtrend, or a situation where there is no trend. It may be pertinent to highlight that prices rarely move in a straight line, but rather in a wave-like action. The crests of these waves are called the highs or swing-highs, and the troughs are known simply as the lows or swing-lows. Uptrends in Price Action An uptrend is a market condition dominated by the bulls and is characterized by a series of higher highs and a series of higher lows in price. The trend is said to be in place as long as this series is maintained. If however, price fails to make a new high or it makes a lower low, then the uptrend is deemed to have ended. of lower lows and lower highs in price. The trend exists as long as this series remains intact. No Trend The third condition is one in which there is no trend and is characterized by price unable to make neither a series of higher highs and higher lows nor a series of lower lows and lower highs. The highs and the lows occur in random permutations which ultimately signals that neither the bulls nor the bears are in control. Downtrends in Price Action In a similar vein, a downtrend is a market condition dominated by the bears and is identified by a series

4 Candlesticks and Their Patterns An increasingly popular method of plotting price action is candlesticks, which have their origins in late medieval Japan. The opening and closing prices of a session are denoted by the body of the candle and the highs and lows by the wicks. Candlesticks are analyzed individually as well as in groups or patterns. Due to their Japanese origins, individual candles as well as their patterns, have colorful names. It can be argued that the messages depicted by candlesticks and their patterns are more relevant from a trading perspective than the names themselves. In line with this thinking, we shall focus our attention on the messages, rather than the names.? Candlesticks graphically portray the outcome of each session of trading and convey whether it was dominated by the bulls, the bears, or neither. These three types of candles are sufficient for the purposes of most analyses. It might also be germane to point out that when indecisive candles, where neither the bulls nor bears have had their way, occur in succession, it can often be an indication of a change in market direction. Candlestick patterns are interpreted in a similar fashion however more than one candlestick and its association with its neighboring candlesticks are analyzed to identify potential directional shifts in price action. Bullish Reversal pattern Bearish Reversal pattern

5 Support and Resistance Support and resistance are structures in price that can be thought of as the floor and ceiling of a building, with support propping up prices like a floor and resistance constraining upward movement like a ceiling. Support is formed when prices reach down from above and tests and retests a particular price point multiple times without breaching it; this price point is deemed a horizontal level and would be defined as support. Similarly when prices do so from below and are unable to break through a horizontal level, then that level is construed as resistance. They can provide astute traders with trading opportunities as they can be used to construct high probability strategies in two ways. First, they can be used to initiate entries as price either breaks through or bounces off a level of support or resistance. Second, setting a stop-loss protected by a level of support or resistance can decrease the likelihood of the stop-loss being hit before the profit target is achieved. Resistance Support An important property of support and resistance: support when broken often becomes resistance and resistance when broken often becomes support. Resistance Support

6 Price Action; A Complete Trading Strategy Let us now explore how we can construct a trading strategy using the concepts presented: 1. Identify a chart that has a clear up or downtrend in place 2. Ensure that the chart has deliberate, even flowing price action 3. Identify levels of support and resistance in the vicinity of current price action 4. Wait for price to reach for a level of support to go long; or a level of resistance to go short 5. Wait for a small (relative to the other candles on the chart) bullish or bearish candle to form for a long or short trade respectively (trigger candle) 6. Trade entry on the break above or below the trigger candle 7. Set your stop below the support or above the resistance for a long or short trade respectively 8. Set target at a distance equal to or greater than entry to stop as identified in steps 6 and 7 9. Ensure there is no support and/or resistance on the way to the target Even flowing downtrend Resistance Short trade set-up example with an entry signal below the bearish candle. Stop-loss would be set above the trigger candle and above the level of support thereby protecting it. Stop-loss Entry

7 Summary With a plethora of indicators and tools at their disposal, traders often overlook the very essence of technical analysis, which is price action. This e-book draws attention to the fact that price is in fact the very heart of technical analysis. A strategy constructed with price action at its core, which uses the basic tools of trends, support/resistance and candlestick patterns to demonstrate that the basics, if well understood and executed, could lead to positive trading outcomes. Should you have any further questions and need assistance in any way, please contact your local OANDA representative at