Education - Technical Analysis Chapter-III

In simple words the trend is the direction in which market prices moves in. Prices could move in three directions specifying what type of trend we are encountering:

1. Increase trend: An increase trend is a trend where tops and bottoms are higher and higher.
2. Decrease trend: A decrease trend is where tops and bottoms are lower and lower.
3. Horizontal trend: A horizontal trend is where tops and bottoms are situated horizontally, portraying a calm in the market and a break prior to a new impulse.

Obviously these are not the only rules specifying what type of trend we are in and additional tools will help us as investors specify where we exactly are.
One of the tools that could help us specify where we are and what we can expect from the market is the trend line. Basically the trend line is defined as the line which is formed by connecting two following bottoms in an increase trend and two following tops in a decrease trend.
Example:

How should we interpret this tool?
By connecting points 1 & 2 in this decrease trend we draw a trend line. If this trend line is broken, i.e. if the market breaks through the line in the upward movement, then this could be a signal that this trend could be over and that we could expect the market to increase. The strength of this trend line is portrayed where the market wasn’t able to break the trend line in points 1 & 4.
In the world of investment you will often come around two significant terms: Support & Resistance. For now we will stick to the basics concerned with the terms, but on later materials you will come to see how relevant they really are.
Support: Support is the level where the market is likely to bounce back from a bottom and not break through. On the other hand if the market breaks through then it will continue its decrease movement seeking a further support level.
Resistance: Resistance is the level where the market is likely to bounce back from a top and not break through. On the other hand if the market breaks through then it will continue its increase movement seeking a further resistance level.
It is not easy to find all relevant support or resistance levels. In later materials you will find out more about how to find significant support and resistance levels and why the ones that you found are more important than others. For now let us accept bottoms as support levels and tops as resistance levels.
Example:

Support and resistance levels will not only help us understand how the market can react at different market levels but it will also help us in forming one of the most popular technical analysis tools, i.e. the trend channel.
The trend channel is formed by drawing a trend line and drawing a parallel line to the first line, connecting bottoms in a decrease trend and tops in an increase trend starting from the first bottom or top.
Example:

The trend line was formed by connecting points 1 & 3. Later a parallel line was formed and initiated from point 2, which is the first top following bottom 1.
How can this trend channel be interpreted?
In order to draw such a channel we should be in point 3. Later points can be interpreted as follows. The points which bounce back from the support level at the bottom, i.e. points 1,3 & 7 portray the strength of support at this market level, whilst the points which bounce back from the resistance level at the top, i.e. points 2,4 & 6 portray the strength of resistance at this market level. As we can observe points 6 & 8 were placed lower than the former peaks showing that the market is becoming less and less dynamic in the upward movement. This could be the first signal that the trend may want to change its direction. This is confirmed when the trend channel is broken at point 9 and the increase trend turns to a decrease trend.
It may seem like a simple question, but knowing what we know from only this educational material, try to think about which points from 1-9 seem like good points to open a position, taking into account that the trend channel we see started earlier and point 1 is not the beginning of the channel?

Try to obviously answer on your own but I will give you a hint from George Lane: “The trend is your friend”.