There is a popular adage in the financial markets, “The trend is your friend.” So, many traders tend to adopt trend-following strategies, which often require the use of trend indicators.
These are indicators that you can use to identify whether there is a trend and the direction of the trend.
The market trend is either upward or downward, and trend indicators can help you get into the market in either direction and could also tell you when to get out.
There are different ways traders trade a trending market — some trade the individual swings in the direction of the trend, while others try to ride the trend to its completion.
Whatever the case, if you choose to trade a trend-following strategy, here are the best trend trading indicators you should know.
Price action as a trend indicator
Price action refers to current and historical price movements, and it encompasses the market structure with the various price swings, the chart patterns, and the candlestick patterns.
Reading the price action is one of the most valuable skills you can have as a trader because the price is the most important variable from which all other indicators are derived.
It is very easy to identify the presence and direction of a trend by interpreting the price swings.
In a trending market, there are two types of price swings (waves) — impulse and corrective waves.
The impulse waves are stronger, more prolonged, and move in the direction of the trend, while the corrective waves are weaker and move against the trend.
Thus, the easiest way to identify a trend is to find out the direction with the bigger price waves (impulse waves).
If the impulse waves are going up, the trend is upward, and you will notice this by the higher swing highs made by the impulse waves and the higher swing lows made by the corrective waves.
The GBPAUD chart below shows a series of higher swing highs and higher swing lows. So, the price must be in an uptrend.
In a down-trending market, the bigger price waves (impulse waves) move downward, so you will notice that the price is making a lower swing low with every impulse wave and a lower swing high with every corrective wave (pullback).
The chart below is that of AUDUSD showing a series of lower swing lows and lower swing highs. So, the market must be in a downtrend.
Line chart as a trend indicator
Sometimes, the candlestick charts can really get confusing as a result of frequent price spikes.
In such situations, it becomes difficult to identify the main price swings let alone read the trend direction.
This is when your line chart comes in as it picks only the most important price point in each trading session.
A line chart is a continuous line connecting the specified price data points of each trading session of the historical price action.
Most times, the specified price data point is the closing price, but the median price ((H+L)/2), opening price, low, or high may be used.
The benefit of the line chart is that it removes the whipsaws and leaves you with a curve that shows the actual direction of price movements.
Thus, you can see more clearly if the price is predominantly moving upwards or downwards.
However, it’s important to know that with this chart, you won’t be seeing other price data points — highs/lows if the closing is used — and this may affect your trading decisions.
Therefore, the best use for the line chart is to identify the direction of the trend. If the line chart is sloping upwards most of the time, then, the trend is upward.
This Gold H4 chart below is a line chart that clearly shows the price swings. You can easily see that the price is ascending.
On the other hand, when the line chart is predominantly sloping downwards, the trend is obviously downwards.
Below is a line chart for the AUDUSD on the H4 timeframe. You can see that the price was gradually trending downward but later started dropping faster.
Trend lines as a trend indicator
Trend lines are diagonal lines attached to the price swing lows or highs to delineate the direction and, sometimes, the momentum of a price trend.
The direction of the slope of a trend line indicates the trend direction, while the angle of the trend line indicates the momentum of the trend.
There are two types of trend lines — the normal trend line and the angular trend line. Both do the same thing, except that the angular trend line shows the angle of the slope.
To attach the trend line, you must first use the price action to have an idea of the direction of the trend.
If the price is making higher swing highs and higher swing lows, the trend is probably upward, so you attach your trend line across the rising swing lows.
Here, the trend line serves as a potential rising support level, where downward price swings may reverse.
The GBPAUD chart below shows a gradually rising uptrend. Notice how the price bounced off from the trend line each time it hit it.
For a price structure that is making lower swing lows and lower swing highs, the direction of the trend is likely downward, so you attach a downtrend line across the descending swing highs.
The downtrend line serves as a descending resistance level where a price rally can reverse.
Here, the price is in a downtrend, and you can see how the trend line is sloping downwards. Notice how the price reversed each time it hit the trend line.
Price channel as a trend indicator
Quite similar to trend lines, a price channel is created by attaching, at the opposite swing point, a trend line parallel to the main trend line.
Thus, it consists of two parallel lines, one attached across the swing lows while the other across the swing highs, so the price mostly swings between both lines, irrespective of how the channel is moving — horizontal, ascending, or descending.
A horizontal channel indicates a lack of trend, but when the channel is pointing upward or downward, it shows there is a trend.
An upward sloping channel implies an uptrend, while a downward sloping channel shows a downtrend.
In an uptrend, impulse waves move from the trend line at the swing lows to the trend line at the swing highs, so you look for trading opportunities at the lower ends and place your profit targets at the upper end.
This AUDUSD H4 chart below shows an uptrend that lasted from December 2017 to February 2018.
Notice how the price action remained predominantly within the channel. Looking for buying opportunities around the lower trend line is the right way to trade until the price broke below it in February 2018.
For a descending channel, impulse swings move downwards from the upper end of the channel towards the lower end.
Thus, you look for selling opportunities at the upper end and look to take profit at the lower end.
In the AUDUSD H4 chart below, you can see a downtrend that occurred from September to December 2017.
The price action stayed mainly within the downward channel, so going short whenever the price pulled back to the upper trend line would have been great.
Moving average as a trend indicator
The moving average indicator is an average of price data over a chosen period, calculated continuously as more price data are generated with every new trading session.
It smoothens the price data, showing you the direction of the trend. But how well it smoothens the price depends on the number of averaging periods used.
The bigger the averaging period, the smoother the indicator.
Being an average of the price, the indicator lags behind the price action, and the lagging increases with the averaging period.
So, in an up-trending market, the indicator is below the price, while in a down-trending market, the indicator is above the price.
The moving average indicator can be used to identify the direction of a trend, as well as its momentum.
When the moving average line is sloping upwards with the price staying mostly above it, the trend is upwards, and the indicator serves as dynamic support levels.
The steepness of the indicator line indicates the momentum of the trend.
In the US 30 H4 chart below, you can see that the moving average is sloping upward, and the price stays mostly above the moving average line. Notice how the price reversed around the indicator line after a pullback.
If the moving average line is sloping downward and mostly staying above the price, there is a downward trend.
In this case, the moving average line acts as dynamic resistance levels where price rallies may reverse. The steepness of the slope shows how fast the price is moving.
The AUDUSD chart below shows a downtrend, as the moving average line is sloping downward and the price is mostly below the indicator line. Notice the downward reversals around the indicator line.
Average Directional Index (ADX) — a trend indicator
Developed in 1978 by J. Welles Wilder, the ADX is a non-directional trend oscillator that shows the strength (momentum) of a trend.
Just like other oscillators, the ADX is plotted in the indicator window under the price chart.
It consists of a single line that oscillates between 0.00 and 100.00. In some charting platforms — MT4, for example —the ADX is plotted with the positive and negative directional movement indicator (DMA) lines.
While the indicator can tell when there is a trend, it cannot tell which direction the trend is headed.
Traders only use the ADX value to gauge the strength of the trend, with readings below 25 indicating a weak trend, 25-50 indicating a strong trend, 50-75 indicating a very strong trend, and above 75 signaling an extremely strong trend.
A low value of the ADX often indicates a market in a range. When a new trend is emerging, the ADX value starts to go up — the stronger the trend, the higher the ADX value. It doesn’t matter whether the new trend is in the upward direction or downward direction.
Thus, it is necessary to either use price action or other tools to identify the trend direction.
Then, you can use the ADX to determine when the trend is strong enough to use a trend-trading strategy or if you will stay away from the market and wait for a better trend.
In the AUDUSD H4 chart below, the price was in an uptrend — as indicated by the uptrend line. The rising ADX line shows an increasing trend.
Below is another H4 chart of the currency pair showing a downtrend — indicated by a downtrend line. Notice the rising ADX line when the price started dropping at a faster rate.
Parabolic SAR (stop and reverse) as a trend indicator
The parabolic SAR or stop and reverse is another trading indicator developed by J. Welles Wilder.
It shows the direction of the market and also indicates when the price is possibly reversing, which could become potential trade entry or exit points.
The indicator overlays the price, and it appears as a series of dots above or below the price bars.
When the dots are below the price bars, the trend is probably upward, so it’s a bullish signal.
On the other hand, when the dots are above the price bars, there is a bearish signal, as the trend is probably downwards.
One interesting thing about the indicator is that it uses historical values to calculate future values, and the dots don’t repaint.
However, as with most trend indicators, the parabolic SAR lags the price. There are many ways traders use the indicator, including trade entry and exit, setting a stop loss, or trailing profit.
If you are long when the dots started appearing below the price bars, three consecutive bars above the price bar might be enough signal that the uptrend is turning to a downtrend, which is an indication to get out.
The US30 chart below shows the Parabolic SAR below the price, which indicates an uptrend. It’s possible to trail your profit just below the dots.
For a short trade in a downtrend — when the dots are above the price bars — you may look to exit when three consecutive dots appear below the price bars.
In the US30 H4 chart below, a short trade when the price broke below the consolidation could have been trailed above the dots.
A break above the dots or the appearance of 3 dots below could be a sign to get out.
Bollinger Bands trend indicator
Developed by John Bollinger in the early 80s, Bollinger Bands is a technical tool that can act both as a trend indicator and a dynamic price band that measures volatility.
It uses standard deviation to estimate the upper and lower bands, which often correspond to the highs and lows of the price swings.
The indicator consists of 3 lines: a 20-period moving average that forms the central line, an upper band that is plotted 2 standard deviations above the central line, and a lower band that is plotted 2 standard deviations below the central line.
Thus, it shows the price mean and the degree of variation of the price from the mean — a measure of volatility.
Both the central line and the bands tend to slope in the direction of the trend when the market is trending.
So, in an uptrend, the lines slope upward, and since the lower bands imply relatively underpriced levels and could serve as a dynamic support level, you may look for buying opportunities around there.
In the US30 chart below, the Bollinger Bands are sloping upward, so there is an uptrend. Notice the pullbacks to the lower band that ended with bullish pin bars, which would have been an opportunity to go long.
Conversely, if the market is in a downtrend, the Bollinger Bands slope downwards, and with the upper band indicating relatively overpriced levels and acting as a dynamic resistance level, that is where to look for shorting opportunities.
Below is a US30 chart showing a downtrend. Notice how the Bollinger Bands are sloping downwards.
Moving Average Convergence Divergence (MACD) as a trend indicator
MACD is both a trend indicator and a tool for measuring the price momentum. It involves two exponential moving averages of the price data, and it’s calculated by subtracting the slower moving average from the faster-moving average, and then getting an average of the difference.
The default setting is 12, 26, 9 — which implies a 12-period EMA of the price, a 26-period EMA of the price, and a 9-period EMA of the difference between the 12-period and 26-period EMAs.
The MACD indicator is placed in the indicator window below the price chart, and it consists of two lines : the MACD line, which is actually the difference between the 12-period EMA and the 26-period EMA, and the signal line, which is a 9-period moving average of the former.
The vertical axis of the indicator box has a baseline at 0.0000. There may also be an indicator bar that tracks the movement of the MACD line relative to the signal line.
There are two types of signals from this indicator, both of which can be bullish or bearish :
- The MACD line crossing the signal line: this means that the 12-period EMA has changed direction.
- The MACD line crossing the zero level (baseline): here, the 12-period EMA has crossed the 26-period EMA
When the MACD line crosses above the signal line, it is an early bullish reversal signal, and when it crosses above the zero level, the uptrend is already established since it signifies a golden cross
In the chart below, you can see the MACD in the indicator box. We also added a 26-period EMA and 12-period EMA to show that when the MACD line (blue) crosses above the zero level, the 12-period EMA crosses above the 26-period EMA (Golden cross), signaling an uptrend.
On the opposite side, when the MACD line crosses below the signal line, there is a potential bearish reversal.
When it eventually crosses below the zero level, the bearish trend is already established as it implies a death cross.
Here, you can see that the MACD line going below the zero level coincided with the 12-period EMA going below the 26 period EMA, which indicates a downtrend
Ichimoku trend indicator
Ichimoku is a multi-functional indicator that shows the trend direction, the momentum of the trend, and potential support and resistance levels. It consists of four parts:
-Conversion Line: This shows the midpoint of the range of the last 9 periods, and it is the most sensitive part. It follows the price quite closely, and it shows the short-term trend.
-Base Line: It represents the midpoint of the range of the last 26 periods, and apart from showing the short-term trend, it also shows some minor resistance levels.
-Lagging Span: This is the current closing prices plotted 26 periods back, so it brings the current closing prices to the price action of 26 periods ago making it easier to compare the stage of the current price to the previous price cycle.
-The Clouds: The Clouds consist of 2 lines and the shaded space between them. The faster moving line of the Clouds, the Senkou Span A, represents the midpoint between the Conversion Line and the Base Line, projected 26 periods into the future.
The slower-moving line of the Clouds represents the midpoint of the range of the last 52 periods, projected 26 periods into the future.
An uptrend is believed to be developing when the Conversion Line crosses above the Base Line, the Lagging Span crosses above the price, and the price stays above the Clouds.
In the chart below, the price is above the Ichimoku clouds and both the Conversion Line and Base Line are rising with the price.
A downtrend is considered to have emerged when the Conversion Line crosses below the Base Line, the Lagging Span crosses below the price, and the price stays below the Clouds. See the chart below.
Alligator trend indicator
Created by Bill Williams, the Alligator indicator is a trend-following indicator that consists of three moving average lines of different periods overlaying the price chart to show when the market is in a trend or range. The 3 moving averages are as follows:
-A 5-period simple moving average shifted 3 periods into the future (green color) — the lips
-An 8-period simple moving average shifted 5 periods into the future (red color) — the teeth
-A 13-period simple moving average shifted 8 periods into the future (blue color) — the jaws
It is interesting to note that the averaging period of each of the moving averages is a Fibonacci number, and each moving average is shifted into the future by a Fibonacci number immediately before the number for the averaging period.
When the green line crosses above the red and blue lines and all the lines are climbing up, an uptrend is already underway.
The chart below shows the 3 moving averages rising steadily, with the price making occasional pullbacks.
If the green line crosses below the red and blue lines and all the lines are descending, there is obviously a downtrend.
You can see that in the chart below. Although there was a time when the 3 lines came together during a pullback, the downtrend continued with the 3 lines descending steadily again.
Donchian Channel as a trend indicator
The Donchian channel is a trend-following indicator developed by Richard Donchian. The channel uses the high and the low of a stipulated period range to create a trading band that can help ascertain when the price is breaking above the highs (uptrend) or below the lows (downtrend). Usually, a 20-day range is used, but it can also work on any timeframe.
The infamous Turtle Traders heavily used the principle behind the indicator. Trading with the Donchian channel is quite straightforward. It is a kind of breakout strategy.
When the price breaks above the upper end of the channel, it is trending up, and it’s a good time to buy.
A break below the lower end of the channel is a signal to go short as it means that a downtrend is emerging.
But you should know that the indicator was not developed for the 24-hour forex market, so you should adapt in a way that is suitable for you.
The chart below shows the price breaking above the upper channel, triggering an up move.
In the chart below, there were multiple times the price broke below the lower Donchian channel, and each of those breakouts presented an opportunity to go short.
Aroon as a trend indicator
Developed by Tushar Chande in 1995, the Aroon indicator identifies the changes in the strength of a trend by measuring the time between highs and the time between lows over a given period.
It follows the idea that in a strong uptrend, the price is regularly making new highs, while in a strong downtrend, the price is regularly making new lows.
Just like momentum oscillators, the Aroon indicator stays in a separate window under the price chart, and it consists of two lines: the "Aroon up" line, and the "Aroon down" line.
The Aroon Up measures the strength of the uptrend, while the Aroon Down measures the strength of the downtrend. When Aroon Up crosses above Aroon Down, there is a growing uptrend.
Conversely, when the Aroon Down crosses above the Aroon Up, there is a growing downtrend.
In the chart below, when the price is moving up, the Aroon Up line (orange) crosses and stays above the Aroon Down line.
The chart below shows a downtrend. Notice how the Aroon Down crossed and stayed above the Aroon Up.
There are many trend indicators available to traders, but most of them often lag the price action.
So, price action, together with other basic tools like trend lines and price channels, is still very much in use.
Moving averages and Bollinger bands are also popular. Study all of them and choose the one that works for you.
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