What is a Trend line?
A trend line is a straight line that connects two or more price points, and then extends into the future to act as a line of support or resistance. As its name implies, it helps traders recognize the trends to decide if the market is bullish or bearish.
If the Trend line starts from the Bottom and moves in the upward direction, then it is assumed as an Up Trend (Bullish). And if the trend line starts from the top and moves in the downward direction, then it’s assumed as a Down trend (Bearish).
How does it work? Trend lines can be used to identify and confirm trends. A trend line connects at least 2 price points on a chart, and is usually extended forward to identify sloped areas of support and resistance.
Positive Trend: An uptrend line has a positive slope which is formed by connecting two or more low points. The second low must be higher than the first for the line to have a positive slope. Note that at least three points must be connected before the line is considered to be a valid trend line.
Negative Trend: A downtrend line has a negative slope that is formed by connecting two or more high points. The second high must be lower than the first for the line to have a negative slope. Note that at least three points must be connected before the line is considered to be a valid trend line.
Key points to remember:
- Trend line is an important tool for both identification & confirmation of trend.
- To manually draw a trend line, you have to draw a straight line that connects two points either High to High OR Low to Low.
- Trend line usually connects two points for the trend identification but it should connect at least three point for a valid trend line as drawn into above chart.
- A valid trend line can also act as a support & resistance for the prices of the stocks.
- Trend lines can offer great insights, but if used incorrectly, they can also produce false signals.