How to Identify Trends and Trading Ranges
Technical analysis helps you identify trading trends, discovering when one begins and ends. Our style of trading, position trading, looks for the persistent trend, which is a trend that lasts for at least several weeks to several months or even longer.
Day traders and swing traders who buy and sell in the shortest of terms also look for trends to trade. In fact, the distinction between a day trader, a swing trader, and a position trader is the length of the trend that each is hoping to find.
Following trends is an effective trading strategy, especially for new traders. To follow trends successfully, you first need to identify and distinguish between stocks and markets exhibiting trends and their counterparts, trading within specific price ranges.
Stocks are either trending up or down or trading within a confined price range. The latter are said to be range bound or stuck in a trading range, never trading higher than the high nor lower than the low during a specific time frame. You also hear range-bound stocks described as consolidating or building a base. Although some subtle distinctions may exist among these terms, many use them interchangeably.
Trading ranges can persist for long periods of time. Some may even last for years. For a position trader, having money in a range-bound stock represents wasted opportunity. You won’t lose money, but you won’t make any either.
Instead, think about identifying range-bound stocks because they have the potential to begin trending. You can patiently watch these stocks for a signal indicating the trading range may end and a trend may begin. Stocks that break out of a long-lasting trading range often begin trends that can be traded profitably.
Trading ranges are easy to spot after the fact, but anticipating when a stock is about to enter or exit a trading range is nearly impossible. Range-bound stocks are difficult to trade, especially for new traders. Some short-term traders are able to trade range-bound stocks successfully, so it isn’t impossible, but it’s a good idea to become a proficient trend trader before attempting to trade stocks stuck in trading ranges.
Identifying a trading range is best done visually. This chart of Time Warner, Inc., stock (TWX) in a range-bound pattern.
Time Warner spent more than nine months trading between $13.50 and $16.50. Notice how the price moves up and down but always between those levels, never making much progress one way or the other. Also notice the lines drawn on the chart near $13.50 and $16.50. These lines show support and resistance levels, respectively.
How to spot a trend
Now contrast the Time Warner chart with the chart of Ryanair Holdings (RYAAY). RYAAY appears quite different from the range-bound stock. Notice the steady stair-step march upward as the stock rises higher and higher.
Even in a strong upward trend, stocks rarely go straight up. You often see some reversals and mini-consolidations in a trend that cause the stair-stepped look.
That stair-stepped upward march is an identifying characteristic of an uptrend. Although defining it quantitatively is possible, seeing an uptrend on a chart is easy, and that’s the way it often is done. As long as a stock price continues to reach higher intermittent highs and its new lows don’t fall below previous lows, the uptrend remains intact.
Stocks can also downtrend; a series of lower highs and lower lows is as much of a trend as its upward-bound counterpart. This chart shows Comerica, Inc., (CMA) in a downtrend.
Time frame matters
The time frame of your chart determines your trading perspective.
You may notice that the price lines of a range-bound stock are made up of many small trends. If you look at an intraday chart of Time Warner stock (TWX) that spanned the 25 or so days of trading from April 14, 2008, through May 15, 2008, TWX appears to be in an uptrend.
You can see a solid uptrend for TWX if you put in the dates November 12, 2012, through April 5, 2013, and build a chart at StockCharts.com.
In fact, TWX was in a uptrend for a month between April 2008 and May 2008. However, when you step back and observe a broader historical record of TWX’s trading pattern by looking at the daily and weekly charts, you can easily see that the multiday trend actually was confined within the prevailing trading range during that year.
Although short-term swing traders and day traders make a living basing their trading on these mini- and microtrends, doing so is very difficult to do.