FOREX Trend Determining Tools
In any financial market, traders often profit well if they enter a well-established trend. This is true of the foreign currency exchange market, or Forex. The challenge is identifying current price action as genuinely trending or not. Trends are among the swiftest and largest price moves in any market, so your trend trading skills are important for long-term success. Some tools can help you determine if a Forex currency is trending.
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Dow Theory
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Co-founder of Dow Jones & Co., Charles Dow first laid out the guidelines for trend identification in his "Dow Theory," from nearly a century ago. It was the first major study of "technical analysis," which is the field of predicting future price performance based on chart action. Today, traders continue to analyze markets with this easy technique. When you study a price chart, compare the most recent peak, or "high," on the chart with the previous peaks. If each subsequent high is higher than the previous highs, then turn your attention to the lows that form between each high. If these too are rising, you have what is called a pattern of "higher highs and higher lows." This indicates the market for that instrument is trending.
Trend Line
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Another way to determine a trend is to use a "trend line" drawing tool, which most Forex charting programs provide. If you see prices rising, attempt to draw a straight line that connects the price lows on the chart. If at least three lows line up together, you have a trend. In a down trend, you would need to connect at least three highs with a straight line. This is a similar concept to Dow Theory, but it emphasizes the lows only, and also offers a quick visual cue that you add directly to a chart.
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Moving Average
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A common tool for identifying trends is the "moving average." Like a trend line tool, you add this indicator directly to a chart. It is one of the oldest and most well-known chart analysis tools. A moving average simply finds the average price over a period of time. Each new bar on the chart creates a new average, and a line connects all these averages. In volatile markets, the slope of a moving average helps determine the underlying trend, if there is one. A relatively flat line does not indicate a trend, while more steeply sloped lines suggest stronger trends.
Warning
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All these tools can accurately determine if a financial market is trending. But all trends do eventually come to an end, and it is possible to enter a trend right at its end and suffer considerable losses as it reverses course. Always test your trading strategies extensively with a simulation account or by keeping track of trades on paper only until you are comfortable with your technique. If a trend starts to reverse, don't be afraid to take a small loss rather than holding onto it longer, which can often just lead to greater losses.
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