Why the Trading Trend Works - dummies

Why the Trading Trend Works

By Barry Burns

Trend trading is one of the most popular approaches to trading. It’s been around for decades because it’s a proven approach to making money in the markets.

Understanding why trend trading works may give you more confidence in trading the trend. Trend trading has a rationale behind it that has its roots deep in human psychology.

Being a follower by nature

Human beings are naturally social creatures. Part of what comes with that is developing social structures to get along and function as a group. For the sake of organization and to prevent chaos in the group, people naturally tend to set up leaders (the minority) who guide the rest of the group (the majority).

This dynamic finds its way into chart patterns as well. The financial markets move because people are buying and selling. That buying and selling is based on people’s ideas, beliefs, and feelings. Therefore, the patterns you see in the charts are maps of human nature.

Following the leader

The nature of the masses is to follow, so most traders are waiting for someone to initiate a move in the market. Then and only then will they jump onboard. After the leaders (the professional traders) make their commitment to buy or sell the market, the masses have a tendency to follow them, further pushing the market in the direction of the professionals’ trades and creating a trend.

Although many people may not like the idea of being followers, there’s nothing wrong with this in trading. The average retail trader simply doesn’t have enough financial clout to begin a trend. Large institutions often start trends by trading enormous volume, taking positions, and continuing to add to them. That creates a momentum that can start a sustainable trend.

Jumping into a trend established in this way can be a great way to trade because a high probability exists that the large commitment of money made in a given direction will create momentum for the market to keep moving in that direction for the long term. You want to join that trend as soon as possible because a trend can end at any time.