For this lesson, Sandy Jadeja teaches about downtrends and where a swing trader would look to sell the pullbacks. This continues the lessons for basic trading strategies, learning to recognize downtrends and how to trade correctly trade with the trend. This lesson was originally posted by Cantos on Youtube on November 9, 2009.
What is a Downtrend?
In the chart on slide 2, we can see there are lower highs and lower lows. That is a downtrend. For an uptrend to happen in this chart, we will need to see higher highs and higher lows. Until that happens, we will be looking to trade short (profit as the market goes down, not up). In other words, we will be trading with the market and only taking sell positions.
Definition of a Downtrend
For the chart example on slide 3, we can see the second high from the left (marked with the blue line) is lower than the first high. We've actually broken below the recent low, so we have a continuation to the downside. Waht do we do as a trader? It's hard to pick tops and bottoms, so my argument here would be to continue with the trend. In other words, if I see a break below the most recent low (rightmost low marked by the red line), I would continue to sell in this market. And I would start placing my stops at the recent highs and lowering my stop-losses to protect my profits. Thus, as soon as we break below the Recent Low we expect a continuation to the downside.
Looking at the chart on slide 4 (CCMP in a downtrend), what is this telling us right now? Right away we can see the lower highs and lower lows and that has been continuing all the way until now, where we have a sideways channel, which we'll talk about in the next lesson.
Would you say this market is about to turn and start trading higher? No. We would look to sell as soon as the market takes out the most recent low. And until we see this market break above the most recent high, this market is still in a downtrend.
As taught in the previous lesson, you want to learn to connect the lows to the highs and highs to the lows (using a pen and ruler for printed charts or the drawing tool on your stock chart software). Using red or purple colors will help tell you this is a downtrend.
Notice the Obvious
What about the chart in slide 6? We've seen a break towards the upside (the market break above the most recent high to make a higher high.) Has the trend changed? The first thing I suggest is that you wait to see continuation. In other words, you'll want to see a series of higher highs and higher lows. In this example, we've taken out the minor low and made a higher low for the most recent low. And we want to see a break above the most recent high to make a higher high, and that would tell us that this market has turned into an uptrend.
- Uptrends: trader BUYS the pullbacks or breakouts. In this lesson series, we looked at the breakout method.
- Downtrends: trader SELLS the pullbacks or breakouts. Again, in the examples we used in this lesson, we looked at selling the breakouts.
Next Lesson: Learning to recognize a sideways market trend and how to trade it.
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