The Most Important Factor in Trading: Environment
The understanding that it is economic and sociological occurrences that creates the price patterns which we see on stock, currency and commodity charts will go a long way in allowing an individual to move from analyzing markets to trading markets. The realization that fundamentals are already reflected in the price chart opens the door to utilizing technical analysis to define a market’s current environment. We define a market’s environment as its current stance on its different time frames. Once we have that information defined for us, we can use it to select which market to trade and which direction to trade from. Essentially the market defines its environment for us on the chart, and the chart tells us which way to trade it from. Like every other living thing, our survival and success depend on a supportive environment.
One very important tool we use in determining market environment is Directional Lines. We count on the lines to tell us at glance what a markets trends are on its different time frames. This chart in Figure 1-1 is an example of how the directional lines defined the environment in the GBPUSD coming into Wednesday’s session. With price above its Weekly, Daily & 240-minute directional lines, bulls could not have asked for a more supportive set-up.
Figure 1-1
Likewise the chart in Figure 1-2 gives us a snapshot of the current market environment in the EURUSD as seen from a 60-minute chart. While the 240-minute and daily trends support the current rally, we can see the market running out of steam against the weekly Directional Line.
Figure 1-2
The Directional Lines are helpful in allowing us to see at a glance which markets are trending – aligned on the higher time frames — and which are counter-trending – the higher time frame trends are counter to each other. The implications of this are important when accessing first trade set-ups, which we determine based on environment – think price pattern and structure– and then actual fact-based trade triggers, which we qualify using price structure and momentum.
Ideally we would only operate in trending environments, but realistically if we plan to trade on a regular basis, we often will not have the choice of which environment to trade in as the business cycle and economic developments mold the major asset class markets and currencies into similar price patterns which, more times than not on the lower times frames, are counter-to each other. The advantage of adopting this holistic perspective, which allows market environment to determine market and trade selection, is that individuals wishing to become traders learn right away how to focus on execution, and eliminate the myriad of distractions and misconceived notions that plaque most retail account holders.
To learn more about directional lines sign up for Trading-U’s Overview of Directional Lines
Jay Norris is the Chief Market Strategist at Clovernest Financial Group and the author of Mastering the Currency Market, McGraw-Hill, 2009. Jay’s second book Mastering Trade Selection and Management, McGraw-Hill 2011, will be in book stores in the Spring.
DISCLAIMER: Forex (off-exchange foreign currency futures and options or FX) trading involves substantial risk of loss and is not suitable for every investor. Any charts shown here represent market conditions at a particular point in time. Such conditions may not be replicated in the future. Past performance is not indicative of future results.