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The “Using Trend Analysis To Trade Commodities" article examines and elaborates upon trend lines, their types and the benefits and advantages that different terms of trend line signals offer to investors in the commodities and futures markets and their significance in helping individuals identify profitable trading signals.
The notion of trend is fundamental in the technical analysis of futures and commodities markets. All of the methods used for effective price prediction, such as support and resistance, moving averages, price patterns, etc., are used entirely to measure the trend of the market. The most common adage in investment circles is "the trend is your friend." The trend is the direction the market is moving. Generally speaking, markets move in three ways: up, down, or sideways. When prices move in a relatively flat horizontal direction, they are commonly characterized as trading in a range. This reflects an equilibrium in the market between supply and demand.
Classifying trends
Trends themselves can be classified into three categories: short-term, medium-term, and long-term. Each trend is but a section of the next longer-term trend. A short-term downward trend could represent simply a correction in a longer term uptrend. The importance of any trend to an individual investor depends upon the term of his investment. For a day trader, medium-term and long-term trends are of little significance.
Reading the trend points
The intermittent high points and low points contained within the trend are referred to as the support and resistance levels. The support is a level on the chart where buying materializes in such a fashion to stop further decline. Resistance levels, on the other hand, are clearly discernible low points where selling is so great all further price advances are halted.
In an uptrend, support and resistance levels are rising. Conversely, in a downtrend these levels are falling. When the trend is up, resistance levels signify pauses of the advance which are generally surpassed in the future. Support levels would represent the opposite in a downturn. In a truly trending upward market, each successive high and low must be higher and lower than the ones preceding them. On the other hand, if a support level has not been maintained, this is the first signal that a trend reversal has started.
Turning support into resistance
Any support level that is penetrated by a significant amount becomes a resistance level and vice versa. The more a price drifts from support or resistance, the greater the importance that support or resistance level becomes. What defines a significant penetration depends upon the timeframe and the percentage of that penetration. For short-term participants, the percentage movement beyond a support or resistance level is smaller than someone who is interested in a longer-term position. What the proper penetration amount should be is a matter of interpretation of given market conditions.
Using trend lines in technical analysis
Trend lines are a technique used in technical analysis by drawing a straight line up or down from successive highs or lows to give a more graphic representation of the trend. Most technical analysts believe that prices should bounce off his line at least three times to confirm its validity. If its trend line is penetrated by a significant amount in the opposite direction, this signifies a change of trend is likely. The steepness of a trend line is also very important. If a trend line is sloping too high, this often indicates that prices are advancing too quickly and that these rising prices cannot be maintained. At the same time, if the slope of the trend line is too low, this could be an indication that the uptrend is weak and will soon reverse itself.
By drawing a trend line based on the high points over a time period together with the low points of the same period, one produces what is called a channel. Sometimes prices trend between these two parallel lines. Breaking out of the channel is another indicator of a trend reversal. It is generally believed, when prices penetrate an existing channel, they will usually move a distance equal to the width of the channel.
Support and resistance, trend line in channels, and percentage penetrations are the fundamental tools for all chart analysis. Every successful investor in commodities and futures will use these basic techniques in identifying profitable investment opportunities.
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