Identifying trend retracements using Trendlines
As prices hang along the major trend line on the chart, it shows price trend retracements in the main trend. When a major trend line is broken, it gives a signal for probable reversal in the trend.
Retracements are just short term price reversals in the major price trend. Retracements can be identified by drawing a trend line connecting atleast three price higher lows for an uptrend or lower highs for a downtrend.
Once you are able to identifiy price retracements using a trend line, you can now take advantage of these small moves and make some profits. Let’s take a look at an example.
Below is GBPUSD, Daily chart in uptrend;
As price retraces back to trendline, you await for a bounce. We have continoulsy mentioned the importance of candle patterns combination in such instances. It gives stronger signals.
Looking at our chart above, the buy signals are confirmed by the engulfing candlestick on the trendline. These confirm the end of the retracement. The Stop loss is just below the previous low.
Now let’s look at how to identify and trade trend retracements in downtrend.
To identify retracements when in a downtrend, draw your trend line above the price by connecting atleast three lower highs for a valid trendline. Since we always aim at trading in the direction of the main trend, sell as price bounces off the trendline.
Take look at the EURJPY, Daily timeframe chart below
The sell signals are confirmed by the bearish engulfing candles on trendline. These confirm the end of the retracement. The Stop loss is just above the previous high.
Using Fibonacci Retracements to identify and trade retracements
Fibonacci retracements can be used to identify the price retracement levels in the forex market.
Retracements normally occur on the levels of 38.2%, 50%, and 61.8%, before the continuation of the price trend. Usually if prices goes beyond 100%, it’s an indication for a probable reversal.
To identify retracements in an uptrend, draw from the previous low and drag to the previous high. Like we said, we always aim at trading in the direction of the trend.
To trade retracement on the fib level in an uptrend, buy on bounce of a fib support. This can be explained by the chart below.
From the above chart, price found support at level 50.0% . The buy signal was confirmed by the hammer candlestick pattern on the level. This confirmed the end of retracement therefore uptrend resumption. Price then retraced once more up to 0.0% level. The confirmation for another buy signal was that circled pin bar/hammer.
As we try to identify retracement levels in the market using Fibonacci retracement, we buy on Fibonacci support when in an uptrend and sell on Fibonacci resistance when in a downtrend.
From the above chart, 50.0% fib support level was a good point to take a buy since we had candlestick reversal patterns on the level.
Using these technical indicators does not guarantee a safe haven rescue from losses. What we should not forget is that with forex trading anything can happen in the market.
So as you rely on these technical indicators to identify and trade reversals &retracements, develop a habit of using stop losses in your trading strategy to minimize probable losses.
How long you should hold an open position, is a personal thing for all traders. The decision is all yours. You know what your goals are as a trader, the kind of strategy you use to trade. All this starts from what you are? and What you want? If I am to answer, this...