Trends are when a market moves in a general direction, either up or down. Identifying them early is the holy grail of trading and successful trend spotters make a lot of money. And if there’s money to be made, it’s well worth a blog. So, in Part I, I’m going to look at what trends are and show you some useful tools to help find them. In Part II tomorrow, I’ll look at a useful trend system, following trends and when to exit.

Trending Vs Ranging
Financial markets exist in two broad states: trending and ranging. A market is ‘trending’ if it moves steadily upwards or downwards. If the market is going back and forth within a relatively narrow price range, then it is ‘ranging’.

In this blog, I’m going to discuss markets that are trending and ignore ranging markets. Different studies give different results, but usually markets will be ranging about 70% of the time. This makes the job of finding a trending market that bit more difficult. The failure of many traders is to attempt to apply a system designed for trending markets into a ranging market. So my first (and most important) tip is that if you can’t conclusively determine that a market is trending, it’s probably wisest to simply move on and look for another market to trade.

What Is A Trend
Trending markets can obviously be trending up or down. But you will never find a market that is trending up or down in a straight line. Rather, they generally move in zigzags and these zigzags tend to have pretty obvious highs and lows. It is the direction of these highs and lows that constitutes a market trend.

So, with that in mind, an uptrend is defined as a series of successively higher highs and higher lows. A downtrend is a series of successively lower highs and lower lows.

Manually Finding Trends
Now let’s start looking for some trends. The easiest way to do this is simply by looking at various charts. Doing so, you can quickly visually determine if it’s in an uptrend or, more likely in these recessionary times, a downtrend. But we need a tool to supplement our eyes and this is where trendlines come in.

If you think that you’re looking at an uptrend, then attempt to draw an up trendline on the paddypowertrader chart. This is just a straight line drawn upwards to the right along the various successive lows. To draw this trendline, you only actually need two successive lows. But using only two points is merely a tentative trendline; many traders will require a third point to establish a valid trendline.

On the other side, if you think that a market could possibly be trending down, then draw a down trendline on the chart. This is a straight line drawn downward to the right along the various successive highs (see the first chart in this blog).

If you find a good trend and a solid trendline, it’s time to trade it.

The timing of your entry is always important. You should be looking to enter the trade with the price as close to the trendline as possible.

Using Technical Indicators To Find Trends
Manually looking at charts and drawing trendlines is a great method; I can’t praise it enough. But there are times that using only our eyes and hands result in us finding trends where there actually aren’t any. Human nature means that we often bend the rules (and the trendlines) to make everything fit. This is where technical analysis can lend a helping hand.

Directional Movement And ADX
There is a tool on the paddypowertrader charts whose sole function is to determine if a trend exists in a market. This is directional movement, which you can access by clicking on the ‘settings’ button of your chart and ticking the boxes shown in the image. Click on the links for a more detailed introduction to directional movement and average directional index (ADX). (I’m afraid that directional movement isn’t available for demo accounts, but I’ll discuss the use of moving averages for trend finding tomorrow which is in all charting packages.)

The green line that appears at the bottom of your chart is the average directional index (ADX) line, which describes smoothed market momentum (a fancy term for a trend!) What we’re looking for is a rising ADX line which says that the market may be starting to trend.

While the best use of ADX is to see if the line is moving up or down, two absolute levels are also important. An ADX value of below 20 says that the market is not trending and should be avoided for trending systems. An ADX value of above 40 suggests that the market is trending. The higher the ADX goes above 40, the more the market is trending.

You’ll also notice that in the directional movement system, there are red and green bars. These bars let you know if the market is in an uptrend (green) or downtrend (red). These bars aren’t too important for trend finding, because if the ADX level is high, then it should be blatantly obvious if the market is in an uptrend or downtrend.

That’s enough for the moment. In Part II, I’m going to describe a useful trading strategy for trends. After that, I’ll discuss the differences between forecasting vs following trends and I’ll finish with a look at when trends end.