As a successful trader of Binary options you have to be able to predict the direction the price of an asset will move in. Especially for newcomers to the trading scene this can seem like a difficult, almost impossible task. To them it seems as if market movements were random and without any recognizable pattern; sometimes going up, and sometimes going down; changing direction at will.
Why we need a trend analysis strategy
The price of an asset can raise or fall. The market, however, is never moving in a straight line. To understand why, it is important to know the only two reasons driving the price of an asset: Supply and demand. Of course, fundamental events or news can push an asset into a certain direction, but the only reason the price is going up or down at any given moment is supply and demand.
Therefore, the price movements are erratic, especially in small time frames. Sometimes, a trader might be selling an asset even though there are very good news about it because he needs money to buy a car. Another trader might be buying an asset despite bad news, because he has some money left over and he likes the company. The important point is: None of these things can be predicted, yet they drive the price.
Even worse, when someone is selling or buying a large amount of an asset, for example a bank or a fund manager, he does so in small chunks to not ruin the price with one big trade. These big sales or buys can take weeks to develop, and drive the price the entire time. For a trader, especially a beginner, these forces are almost impossible to know and to account for.
Still, as a trader, you have to account for these events, even though you can’t possibly know they are going on. How do you do that?
The trend is your friend
To solve this dilemma there is one simple solution: Much like most people don’t exactly know how a computer’s hardware works but still can operate a computer, you don’t have to know what exactly is driving the price of an asset, as long as you know which way the price is being driven. That is what trends are for.
Trends describe the general direction an asset is moving in and allow the trader to make predictions he can trade. The general assumption behind trend-based trading strategies is that all the factors driving a price are contained within the price. Therefore, once a trader knows what the price has been doing in the past, he has all the information he needs to make a prediction for the future.
Each trend consists of three points: The starting point, tops, and bottoms. There is only one starting point, but tops and bottoms are alternating and, in theory, can repeat endlessly. An uptrend is called bullish, a downtrend bearish. An uptrend is intact, as long as each bottom is higher than the preceding bottom and a downtrend as long as each top is lower than the preceding top.
How to trade with a trend analysis strategy
When analyzing a trend, you’ll find that even though the market seems to be moving randomly, there are some recurring patterns. For example, let’s take a look at the current price chart of Volkswagen. Each candlestick represents an entire day of trading, and the entire chart covers the time from October 2011 to June 2014.
It is common for the main trend to be interrupted by shorter, more agile trends. After a while, however, these trends will stop, as is symbolized by the price breaking through the trend line. Usually, this is followed by a period of consolidation, in which the price will return to the main trend line.
In the picture above, this is what will likely happen for the near future. The next time the market reaches the main trend line, you know it probably will turn around, and continue to go up again. You can use this kind of knowledge about the general market direction to make sense of the market’s movements and trade more successfully.
For example, until Volkswagen hits the trend line, you know that the market will likely move up and down a little bit and change direction, but the price will not make big, sudden movements. Therefore, you should not invest in a boundary option. Once the price hits the trend line, you know that it will now probably start to rise again, and you should stay away from options that predict falling prices.
Trends like this appear in all time frames. Whether you will make one candlestick symbolize an entire day or only a few seconds, you will always find trends to indicate the direction and the speed the market is moving in. You can use this knowledge to know which binary options to invest in.
Of course, there are time periods without a prevailing trend. These periods require their own trading strategies. Beginners in Binary Option trading should avoid them.
In one of our next articles we will explain to you how you can combine trend analysis with candlesticks to create powerful strategies.