Trend Lines in Technical Analysis

There are some types of trend lines in technical analysis. They are the followings:

Ascending trend
Descending trend
Reversal trend

As is easy to see, markets tend to trend higher or lower following quite geometrical patterns. In an entire uptrend, it is easy to see a series of higher highs and higher lows. If a joining line is drawn between the rising lows, this is called a trend line and it will often be accurate in projecting where the market will find support on the next hollows, thereby indicating good buying levels. When the price breaks lower through such a trendline, a sharp sell-off will often follow as many Forex market traders will have placed sell stop-orders just below the line for their long positions.The break below an uptrend line is in itself a sell signal, attracting new sellers to the market. It is normally to see the series of lower highs and lower lows in a downwards trending market. The trend line can here be drawn along the descending highs and mirrors the analysis described above.

Technical analysis holds that because every possible bit of information is included in the price of a security, it is not necessary to explicitly analyze the fundamental, economic, political, etc. factors that might influence that price. Because all available information is already included in the current price, only a study of the price movement is required. While it is not explicitly proven that prices must trend, technical analysis relies on empirical evidence and simple common sense to assert that prices do trend. Dow Theory provides much of the empirical time-tested support that prices trend to a technician.

For example, if homeowners believed that interest Forex rate increases will erode the value of their homes, they will be inclined to sell. If there were three similar homes in a neighborhood up for sale, the first house could be sold for $100,000, the second could be sold for $97,500 and perhaps the third could sell for $95,000. Rather than immediately drop down to some formulaic price based on interest rates and other inputs, prices will move consistently over time in one direction. (In a large market like global equities with many participants, prices will move in a zig-zag fashion in one direction.) Prices will continue to decline until there is a balance between buyers and sellers. This gradual (but sometimes quick) directional movement in prices (the trend) is what technical analysis attempts to identify and exploit. If a technical analyst could enter this market, he or she would likely sell short a house because the price trend is downward. A person who does not believe that prices move in trends will find little use of technical analysis. The idea that prices trend is probably the most important concept in technical analysis. Moreover, a person who disagrees with Dow Theory will also likely find fault with technical analysis.

Technical analysis believes that investors en masse display much of the same behavior as the investors that preceded them. "Everyone wants in on the next Microsoft," "If this stock ever gets to $50 again, I will buy it," "This company's technology will revolutionize its industry, therefore this stock will skyrocket,"--these are all examples of investors' attitudes repeating. To a technical analyst, the human characteristics of the market might be irrational but nonetheless they exist. Because investors' attitudes often repeat, investors' actions in the marketplace often repeat as well. I.e., patterns of price movement will develop on a chart that a technical analyst believes have predictive qualities. It is important to understand that the realm of technical analysis is not limited to charting.

Technical analysis is always primarily concerned with price trends. Anything that can influence the price trend is of interest to a technician. As an example, many technicians monitor surveys of investor enthusiasm. These surveys attempt to gauge the general attitude of the investment community to determine whether investors are bearish or bullish. Technicians use these surveys to help determine whether a trend will reverse or whether a new trend will develop. A technician would be alerted that a trend might change when these surveys report extreme investor reactions. When surveys are overly bullish, for example, a technician will look for evidence that an up trend will reverse. The logic being that if most investors are bullish, then they would have already bought the market (anticipating that the market will move higher). But because most investors are bulllish and have invested, it is safe to assume that there are few buyers remaining in the market. With most investors long, there are more potential sellers in the market than buyers despite the fact that the overall attitude of investors is bullish. This implies that the market is set to trend down and is an example of a technical analysis concept called contrarian trading.


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