Identifying Forex Trends Using Trend Lines

Trends in the forex markets can also be determined by drawing trend lines. There is the textbook manner of drawing the perfect trend line, but in reality the markets are hardly ever perfect.
This makes drawing trend lines an art form as much as it is a technical skill. In the trading arena, there is no perfect “one” way of drawing a trend line and everybody has their own way of doing it!
On this page, I’ll go through the textbook manner of drawing trend lines before going through what really happens in the process of trading.

The Purpose Of Trend Lines

To state the obvious, the purpose of trend lines is to identify a trend. As price moves in a trend, highs and lows are formed on the chart.
By connecting these highs and lows with a line, we are able to identify what the current trend is.

• In an uptrend, draw a line through the lowest points in the trend without letting the line cross through prices.
• In a downtrend, draw a line through the highest points in the trend without letting the line cross through prices.

In both cases, you will need a minimum of at least two touches of the trend line.
An Up Trend
For example, an uptrend is indicated by higher highs and higher lows. By connecting the lows together, we get an upward sloping trend line. When the trend line is sloping upwards, we have an uptrend.

A Down Trend
A downtrend is indicated by lower highs and lower lows. By connecting these points together, we can draw a downward sloping trend line. And when the trend line is sloping downwards, we have a downtrend.
How simple is that?

Drawing Trend Lines

To draw a trend line, you need at least two points on the chart. Sometimes, you may even get three points perfectly lined up together to draw a perfect trend line.
In technical analysis, a point usually stated is the more a trend line is tested (i.e. when price touches the trend line) the “stronger” the trend line is. That is, a trend line that has price touching it three times is more likely to hold than a trend line that has price touching it only two times.
But in practice, you don’t really know when a trend line will hold, and when it won’t, will you? It’s only after it happensthat you know whether a trend line still holds or not. Also, the more times a trend line is tested, the more likely it’ll be broken the next time.

What do you do when prices break the trend line, and then return to the original trend?
In cases when prices break the trend line and return to the original trend, you simply redraw the trend line again taking the new high or low that has been established. You can also see in the next chart that when a trend line is broken, it can become a barrier to prices.
For example, when the uptrend line was broken, prices came back to hit the trend line from the bottom and found resistance there. It is useful to know if you are able to drop into a lower time frame to trade potential reversal patterns at places where prices are going to find buying or selling pressure.

So when you are using trend lines to draw the trend, take note that prices may reverse when they touch the trend lines either with the trend, or when prices breakthrough to the other side.

Some Trend Line Tips

When you are using trend lines to find the trend, it’s useful to know the following tips:

• A break of the trend line indicates a potential change of trend.
  When prices break an uptrend line, the market could move into a consolidation stage before continuing in an uptrend. The same goes for a downtrend.
• The more times price touches a trend line, the more significant it becomes.
  While this is true in most cases, a place where it would be more useful is when a significant trend line is broken. When a strong trend line is broken, it signifies that a trend change has taken place either into a consolidation phase, or a trend reversal may just be beginning.
• In an uptrend, draw the line along the lows of prices.
• In a downtrend, draw the line along the highs of prices.

Conclusion On Trading with Trend Lines

Trend lines can be very helpful to determine the current trend. But after you have practiced observing prices forming highs and lows, you don’t really need a trend line to tell you whether the market is in an uptrend or downtrend.
I prefer using support and resistance levels to find places when prices are going to reverse, and while I do use trend lines, I don’t use them very often now.
Trend lines help you to clarify what you should be able to see with your naked eye in terms of the current trend. While they may seem “magical” in their ability to predict potential turning points, they are only a piece of the trading puzzle.
To trade well you need to see the whole picture, and not just the puzzle with lots of empty spaces!