The Utility Of Trendlines

Uptrends and downtrends are hot topics among technical analysts and traders, because they ensure that the underlying market conditions are working in favor of a trader's position, rather than against it. Trendlines are easily recognizable lines that traders draw on charts to connect a series of prices together. The resulting line is then used to give the trader a good idea of the direction in which an investment's value might move. In this article, you'll discover how to use this tool. It won't be long before you're drawing them on your own charts to increase your chances of making a successful trade!

Trendline Basics

Understanding the direction of an underlying trend is one of the most basic ways to increase the probability of making a successful trade, because it ensures that the general market forces are working in your favor.

Downward sloping trendlines suggest that there is an excess amount of supply for the security, a sign that market participants have a higher willingness to sell an asset, than to buy it. As you can see in Figure 1, when a downward sloping trendline (black dotted line) is present, you should refrain from holding a long position; a gain on a move higher is unlikely, when the overall longer-term trend is heading downward. Conversely, an uptrend is a signal that the demand for the asset is greater than the supply, and is used to suggest that the price is likely to continue heading upward.

Figure 1

Trendlines can vary drastically, depending on the time frame used and the slope of the line. For example, some securities can show aspects of uptrend/downtrends for months, days or even a few minutes, while others can become range-bound and trade within a sideways trend.

Support and Resistance
Trendlines are a relatively simple tool that can be used to gauge the overall direction of a given asset, but, more importantly, they can also be used by traders to help predict areas of support and resistance. This means that trendlines are used to identify the levels on a chart beyond which the price of an asset will have a difficult time moving. This information can be very useful to traders looking for strategic entry levels or can even be used to effectively manage risk, by identifying areas to place stop-loss orders.

Technical traders pay particularly close attention to an asset when the price approaches a trendline, because these areas often play a major role in determining the short-term direction of the asset's price. As the price nears a major support/resistance level, there are two different scenarios that can occur: The price will bounce off the trendline and continue in the direction of the prior trend, or it will move through the trendline, which can then be used as a sign that the current trend is reversing or weakening.

Drawing Your Own Trendlines
As mentioned earlier, trendlines are simply lines that connect a series of prices to give the trader a better idea of where the price of a particular investment is headed. The problem comes with figuring out which prices are used to create the trendline. As you may know, the open, close, low and high prices are easily obtained for most stocks, but which of these prices should be used when creating a trendline?

There is no one, distinct answer to this question. Technical signals generated by the various technical patterns/indicators are very subjective and trendlines are no exception. It is entirely the trader's decision when it comes to choosing what points are used to create the line and no two traders will always agree to use the same points. Some traders will only connect closing prices while others may choose to use a mix of close, open and high prices. Regardless of the prices being connected, it is important to note that the more prices that touch the trendline the stronger and more influential the line is believed to be.

In general, upward sloping trendlines are used to connect prices that act as support, while the given asset is trending upward. This means that upward sloping trendlines are mainly drawn below the price and connect either a series of closes or period lows. Conversely, a downward sloping trendline is generally used to connect a series of closing prices or period highs, that act as resistance while the given asset is trending downward. This is similar to what is shown in the chart above.

We should note that it is possible to use two trendlines on the same chart. However, this method, known as a channel, goes beyond the scope of this article.

Index Investing Isn't Exciting, But It Works

Zig Ziglar quips that hurricanes and earthquakes get the headlines, although termites do more damage than hurricanes and earthquakes combined.

The number of car accident fatalities in Texas in an average month is the equivalent loss of life as the crash each month of a full commercial airliner with the loss of all aboard. Who doubts that there would be a public outcry for immediate improved aviation safety if a large commercial airliner went down in Texas every month? But where’s the public outcry about the tragedies on the state’s roads?

News coverage of a billionaire often is solely about his or her wealth. A billionaire has one hundred times the wealth of a person with a net worth of ten million dollars. However, press coverage about the billionaire's wealth is orders of magnitude more than the difference in wealth between the two people.

The point: Visibility distorts proportionality in public attention. So do precipitousness and conflict.

Reading business and financial news can leave the impression that nearly everyone and their brother -- especially if perceived as sophisticated -- are investing in private equity, hedge funds, commodities, other “alternatives,” and complicated trading strategies. And frequently stock picking and trading, selecting the "best" investment managers, playing the IPO market, and the like. For example, The New York Times' "Dealbook” -- which has excellent content, by the way -- has the latest and greatest on these topics: private equity, hedge funds, M&A, securities offerings, investment banking, and venture capital. There’s drama with these topics: triumph, failure, redemption, and other sagas. And adrenaline rushes. Heat, smoke, sizzle.

So-called passive investing -- low cost, index fund investing -- by contrast, is boring. Losing or making a fortune quickly with index investing is difficult. Where’s the excitement, the news, in that? A typical person perusing mass-market financial publications would think that index investing isn't in the game.

But it is. $6 trillion is invested in indexed assets, representing a value increase of almost 25% last year. And the trend for indexing, especially for institutional investors seeking worldwide equity exposure, is good. The reasons for the trend include lower risk, a desire for liquidity, the avoidance of subpar active performance, and, of course, the cost advantage. "Nothing is cheaper than beta exposure, delivered through index funds."

The more attention an investment class receives from the financial press, the more lucrative that class is for "financial services industry professionals" (or, to use Warren Buffett's word, "helpers"). And the less likely the class is to produce acceptable, risk-adjusted returns in the long term.

A prediction: In not too many years, the great debate about active management versus indexing will have evolved. The two opposing viewpoints will then be whether investment return optimization is achieved via indexing as the core strategy, complemented by alternatives, or whether indexing is the only strategy

The market made a boring move most of the trading day today except late in the afternoon where it climbed up to beat its opening price.

It's a battle between the two protagonist wherein the bears lost its control late in the trading day.

The only probable trade to spot is after the lunch break where the tight consolidation took its place.

It might be a see saw battle again tomorrow Friday, a profit taking day. Expect some volatility.

The best play tomorrow is to stay on the sideline or take a break from trading.

Traded out at 11440...gain of 60 points...

Bought YM at 11380 with stop at 11350...

Sell stop got hit for a loss of 30 points...

Bought YM at 11350 with stop at 11320...