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Trend trading

Trend trading is a strategy that involves traders analysing the direction of trends for financial instruments. When an asset is seeing an upward trend, traders would often look to enter into a long position and buy. In the opposite scenario, when trend direction is downward, traders would go short and sell. Read on to learn more about trend trading, the various strategies involved, and to view examples from our Next Generation trading platform.

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Trend following strategy

Trend traders create strategies that are developed based on analysing the trends of an asset. A trend following strategy is based on the expectation that the direction of price will continue in its current form and the trend will not reverse. This means that if you are trading an uptrend, you could continue to hold your long position and watch the asset increase in value, while you could choose to sell your asset if the trend is going downward.

Trend following examples

Below is an example of an uptrend, which is when the price rises in value. Traders following the trend pattern would attempt to gain from the movement by entering a long position as the price level increases. When the trend is making higher highs and higher lows, then it is showing an uptrend.

The chart below shows a downtrend, which is when the price is decreasing in value. Traders could then go short and take a sell position as the trend is making lower lows and lower highs.

A sideways trend is when the price action is neither reaching lower or higher points. Generally, traders do not seek to make any gains with this type of trend, unless they are analysing extremely short-term price movements, such as in a scalping strategy, for example.

Using our award winning platform*, traders can implement trend following strategies when spread betting, which is a tax-efficient** way of speculating on the price movement of the underlying assets. Users of our platform can also trade CFDs, which work in a similar manner and enable traders to buy or sell a number of units for an instrument, depending on the direction of the price. You can spread bet and trade CFDs by opening an account with us. It is important to understand the risks of trading with derivatives, such as recognising that a trade position can result in gaining profit as much as a loss occurring if a trade does not go the intended way. Read more about leveraged trading for further understanding.

A particularly useful technical analysis tool on our platform is the ability to create trendlines​. Traders can take advantage of customisable charts and drawing tools to highlight the price action and overall direction of a trend, which can be applied to multiple chart time frames. These features enable traders to take the quality of their analysis to an even higher level.

Trend following techniques can be used for strategies that concentrate on either short-term or long-term trends.

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Short-term trend trading

Short-term traders​ such as day traders​​ like to keep their eye on trends that arise throughout the day in short periods in order to try and benefit from short-term price fluctuations. There are a variety of popular strategies that intraday traders like to use, such as scalping, and there are also separate intraday trend following strategies.

Intraday trend trading

Intraday trend traders would usually hold positions until the end of each day. Therefore, day traders can analyse trends that are only active for a short time period within the day, even for a few minutes or hours. Intraday trend following consists of analysing the shorter-term fluctuations and movements in price. For example, if there is an uptrend during the day that consists of a series of movements creating higher relative highs and lows, then traders could place a trailing stop before the low and then at the next higher low, in the trend, in case the trend were to suddenly reverse. When following a downtrend, intraday trend following could be beneficial as this involves a short selling strategy, which is often used by short-term traders.

Long-term trend trading

Long-term trend trading involves holding on to a position for longer periods of time, often that is in an uptrend. This could be a few weeks, months, or even years. Long-term traders make decisions based on in-depth fundamental analysis that predominantly focuses on how the market will look in the future. When it comes to trend analysis, long-term traders are less concerned with the daily trend fluctuations and concentrate more on the longer-term trend and its influential factors.

Position trading

One of the most popular trading strategies among long-term traders is position trading. This trading method enables trend traders to buy and hold a position for extended periods of time. Without concerning themselves with shorter-term trend movements, the focus is on the long-term objective. However, if short-term fluctuations potentially influence the long-term outlook of their position, then trend following is important and plays a significant role in attempting to attain long-term gains. In order to evaluate potential price trends on the market, it is common for position traders to focus more on fundamental analysis​.

Popular trend trading indicators

When developing trend trading strategies, traders can benefit from a wide range of technical indicators. Below are a few examples of indicators that are popular amongst trend traders and can be applied to trading charts.

  • Moving Average Convergence Divergence (MACD): this supports traders to identify the momentum of a market. It is an oscillating indicator that is effective for identifying new trends and deciphering if they are bullish or bearish.
  • Relative Strength Index (RSI): an indicator that is used by traders to gauge the future direction of a market and to verify whether momentum is accelerating or decelerating. Traders also use this indicator to identify opportunities and to determine whether a stock is overbought or oversold (which could end up affecting the overall direction of their price trend).
  • Parabolic SAR​: also known as the ‘stop and reversal system’, this indicator helps traders to spot the current trend direction. It also helps with understanding the price direction of an asset and highlighting potential reversals.

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Trading trend reversals

In a scenario when a price trend shifts from an upward to a downward direction, or vice-versa, it is called a trend reversal. Traders can seek to gain from this by attempting to get out of positions before the shift manifests, or as early as possible if the movement has already begun. This is called trading trend reversals, which is also known as ‘counter-trend trading’.

Counter-trend trading strategy

Counter-trend trading is a technique that traders use in order to predict a trend reversal and subsequently trade against the current trend. Generally a medium-term strategy, counter-trend trading is a method of swing trading​ as it involves envisaging a potential reversal, or a ‘swing’, in the trend.

This trading method entails the analysis of trend patterns and purchasing or selling an asset that has faced a bullish or bearish shift. This is done in the hope that the trader would be able to buy or sell it back at an advantageous price, due to a higher or lower trend shift. Traders who utilise the counter-trend strategy tend to recognise the benefit of smaller gains and understand how to prevent losses if their trend expectations do not actualise.

Trend trading with CMC Markets

In summary, trend following is a popular approach in trading that can be practised with both short and long-term strategies. You can register now for a demo account or live account to trade trends when spread betting or trading CFDs on our Next Generation platform. We offer over 10,000 financial instruments on our platform, including major forex pairs, stock indices and popular shares.

FAQ

What is a trend trading strategy?

Trend trading is a strategy that involves traders analysing the direction of trendlines for financial instruments. For an upward trend, traders would look to go long and buy, and when an asset is seeing a downtrend, traders would look to go short and sell. Explore and learn more about drawing trendlines.

What is an example of trend following?

When the price action of an asset is showing a downtrend, which is when the price is decreasing in value, traders would look to go short and take a sell position as the trend is making lower lows and lower highs. This is with the expectation that the downtrend will continue. Read more about price action.

What are examples of trend following indicators?

When developing trend trading strategies, traders can benefit from a wide range of technical indicators. Examples of trend following indicators that are popular amongst trend traders include a Moving Average Convergence Divergence​ (MACD), Relative Strength Index​ (RSI) and Parabolic SAR. Learn more about trading indicators​.

How do you do counter-trend trading?

Counter-trend trading is a technique that traders use in order to predict a trend reversal and therefore trade against the current trend pattern. Counter-trend trading is a method of swing trading as it involves envisaging a potential reversal, or a ‘swing’, in the trend.

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