How Trs Work
Traders can identify a tr using various forms of technical analysis, including trlines, price action, and technical indicators. For example, trlines might show the direction of a tr while the relative strength index (RSI) is designed to show the strength of a tr at any given point in time .
An uptr is marked by an overall increase in price. Nothing moves straight up for long, so there will always be oscillations, but the overall direction needs to be higher in order for it to be considered an uptr. Recent swing lows should be above prior swing lows, and the same goes for swing highs. Once this structure starts to break down, the uptr could be losing steam or reversing into a downtr. Downtrs are composed of lower swing lows and lower swing highs .
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While the tr is up, traders may assume it will continue until there is evidence that points to the contrary. Such evidence could include lower swing lows or highs, the price breaking below a trline, or technical indicators turning bearish. While the tr is up, traders focus on buying, attempting to profit a continued price rise.
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When the tr turns down, traders focus more on selling or shorting, attempting to minimize losses or profit the price decline. Most (not all) downtrs do reverse at some point, so as the price continues to decline, more traders to see the price as a bargain and step in to buy. This could lead to the emergence of an uptr again.
Trs may also be used by investors focused on fundamental analysis. This form of analysis looks at changes in revenue, earnings, or other business or economic metrics. For example, fundamental analysts may look for trs in earnings per share and revenue growth. If earnings have grown for the past four quarters, this represents a positive tr. However, if earnings have declined for the past four quarters, it represents a negative tr.
The lack of a tr—that is, a period of time there is little overall upward or downward progress—is called a range or trless period.
Using Trlines
A common way to identify trs is using trlines, which connect a series of highs (downtr) or lows (uptr). Uptrs connect a series of higher lows, creating a support level for future price movements. Downtrs connect a series of lower highs, creating a resistance level for future price movements. In addition to support and resistance, these trlines show the overall direction of the tr.
While trlines do a good job of showing overall direction, they will often need to be redrawn. For example, during an uptr, the price may fall below the trline, yet this doesn't necessarily mean the tr is over. The price may move below the trline and then continue rising. In such an event, the trline may need to be redrawn to reflect the new price action.
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Trlines should not be relied on exclusively to determine the tr. Most professionals also t to look at price action and other technical indicators to help determine if a tr is ing or not. In the example above, a below the trline isn't necessarily a sell signal, but if the price also s below a prior swing low and/or technical indicators are turning bearish, then it might be.
Example of a Tr and Trline
The following t shows a rising trline along with an RSI reading that suggests a strong tr. While the price is oscillating, the overall progress is to the upside.
The rising tr s to lose momentum and selling pressure kicks in. The RSI falls below 70, followed by a very large down candle that takes the price to the trline. The move lower was confirmed the next day when the price gapped below the trline. These signals could have been used to exit long positions as there was evidence that the tr was turning. Short trades could have also been initiated.
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As the price moves lower, it starts to attract buyers interested in the lower price. Another trline (not shown) could also be drawn along the falling price to indicate when a bounce may be coming. That trline would be have been penetrated near the middle of February as the price made a quick v-bottom and progressed higher.
