The old adage that ‘trend is your friend’ is perhaps more suited to Forex traders than any other kind of investor. Knowing the trend can save the forex trader from making disastrous investment decisions and also ensure that he tweaks his exposure to the market in time to leverage opportunities or avert serious capital erosion. What is surprising is that even traders who have spent many months in this market end up making rookie mistakes that cost them heavily. In a vast majority of these cases, the trader’s fault lies in his failure to identify and/ or understand the market trend correctly.
Trend classification by time
Uptrend, downtrend and sideways are all common terms that every forex trader is well aware of. However, to ensure that you are investing knowledgeably, it is not enough to simply know which direction the price is moving in at present and where it is likely to go. The time factor is also a vital aspect to consider.
In effect, when it comes to trends, classification in terms of time is also important. There are three trend lengths that you should be aware of and also be able to spot- short, intermediate and long. The long term trend is typically made up of several short term or a few intermediate trends. To explain further, in an upward trend scenario, drawing a trend line touching the lows shows the trader where the price reaches support level and when it can be expected to start its upward momentum once again. The trader can determine the short term movements that he can predict within this long term upward trend, i.e.: he can predict the short term trend within this time window of the long term one. Many traders enter and exit trades over the very short and short term, and to do this they have to develop the ability to spot and quickly leverage short term trends.
Factors that impact long term trends
To identify/ predict a long term trend, it is necessary for you to understand the factors that usually spark off this kind of trend, as well as impact its duration and behavior. Fundamental factors are the primary drivers of long term trends, also called major trends. You can spot long term trends by the higher highs and higher lows (in an upward long term trend) that the currency pair demonstrates over time. If the currency is trending down in the long term, you should spot the opposite, i.e.: lower highs and lower lows.
Economic conditions that impact the currency also influence its long term trend. Taking a look at the economic indicators, including CPI, GDP, and industrial production, gives you an indication of how the fundamentals are likely to drive the long term trend of the currency.
Identifying short term trends
Short term trends are also known as micro trends. These trends are highly responsive when compared with long term ones because of the small time frame that they encompass. Since these are typically highly volatile, unless you spot the short term trend in time and make your move to leverage it, you could be losing out on an excellent opportunity to make a profit.
Everyday news can and does set off and influence short term trends quickly and substantially. This makes it challenging to keep track of these trends since the short term trend is not only initiated quickly, it can also change direction dramatically within a very small window of time.
One of the critical aspects to remember when identifying short term trends is that this trend could be in sharp contrast to the intermediate or long term trend. For example, when the EUR/ USD pair is in an upward long term trend, it could also show a downward short term trend if significant news impacting either currency gets broadcast. This short term trend may quickly come to an end with the prices correcting and aligning themselves with the long term trend as time progresses.
When short term, intermediate and long term trends are in conflict, it may be necessary for you to review and re-assess your strategy in light of new information. However, it is not always wise for you to completely reverse your earlier strategy since the short term trend may only become a blip on the chart leaving the long term movement unimpaired