How to Effectively Trade Against a Trend

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How to Effectively Trade Against a Trend

The EUR/USD was stuck in a rut during Wednesday’s trading and nothing looked even remotely close to providing a solid trading opportunity. So I hopped over to my back-up pair, the GBP/JPY, which did have some interesting action going on. And just as a side note before jumping into the heart of the post, if you are like me and trade maybe just one pair for the sake of simplicity, having a completely different pair as a back-up (in the case the market is really bad) is probably the best route to go. If your main pair is the EUR/USD, yet your back up is the GBP/USD, you’re probably going to get a lot of the same action. They both represent two European currencies compared against the U.S. dollar. They correlate very heavily together, so if the EUR/USD is lazy and uninteresting, then the GBP/USD likely isn’t going to provide much solace. That is why I venture over the the GBP/JPY – a different European currency tied to an Asian (instead of North American) currency.

Just after 3AM EST, the pound/yen’s slow, steady move down fizzled out in favor of more buyers pushing it up and above the pivot after 4AM. But this up-move was not sustained, as a wave of selling came to the fore to push price back below pivot and engender a continuous downtrend. This is the one thing I particularly enjoy about the European session. Currency pairs often trend in a particular direction and move through or challenge support and resistance, providing trade opportunities based on the way I go about things.

Before 5AM, just north of support 1, there was some indication that some directional change could be in store. The 4:55 candle gained back nearly six pips and demonstrated that the market wasn’t bleeding entirely. The 5:00 candle came within a hair of support 1 before wicking back up a few pips. But price continued trending down below support 1 as well on a strong bearish 5:05 candle.

It wasn’t until support 2 that a reversal started to take shape. Whenever trading against a trend, you need to be careful because it’s risky. As always, every trading decision should be looked at as a business decision. Traders who treat their trading decisions like popping a coin into a slot machine, pulling the lever and hoping for the best simply will not be successful. Ideally, you want about at least twenty minutes of market action suggesting that the trend has petered out. I find that anything less than fifteen minutes tends to be overly high-risk, as it’s difficult to determine in such a short timeframe whether a strong trend might actually be coming to an end – at least temporarily to the point where you can reasonably expect a 5-20 minute trade working out.

On the 5:10 candle, price came shy of the support 2 level – 172.699 – and the next candle came up green, as did the next. After the 5:30 candle produced a 2-3 pip bullish move that rejected support 2, we finally had a good four candles (five minutes apiece) suggesting that this down-move has flatlined. Nothing is ever a certainty in trading, of course, but I actually felt confident at this point of actually taking a call option here.

Once price touched 172.699, I entered the call option, saw it go against me briefly before producing a good six-pip winner by expiration.

Bottom-line is that whenever you are up against a stiff trend, it is often best to avoid considering trades altogether until there is legitimate reason to do so otherwise – like the example posted in this article. A fair amount of time needs to elapse before you can possibly consider the fact that a trend might actually be discontinued, at least for the moment.

A general rule I have set up for myself is this period of time should be about four times as long as the amount of time comprising each candle. That is, twenty minutes after a strong trend demonstrated on a five-minute chart. There is nothing scientifically determined by this “rule,” but it’s something that I try to personally abide by to help slant the odds in my favor as best as possible when considering these type of trend reversal set-ups.

Keep It Simple and Trade With the Trend

As a trader, you have probably heard the old adage that it is best to “trade with the trend.” The trend, say all the pundits, is your friend. This is sage advice as long as you know and can accept that the trend can end. And then the trend is not your friend.

So how can we determine the direction of the trend? We believe in the KISS rule, which says, “keep it simple, stupid!” Here is a method of determining the trend, and a simple method of anticipating the end of the trend.

Before we get started, we want to mention the importance of time frames in determining the trend. Usually, when we are analyzing long-term investments, the long-term time frame dominates the shorter time frames. However, for intraday purposes, the shorter time frame could be of greater value. Trades can be divided into three classes of trading styles or segments: the intra-day, the swing, and the position trade.

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Large commercial traders, such as those companies setting up production in a foreign country, might be interested in the fate of the currency over a long period of such as months or years. But for speculators, a weekly chart can be accepted as the “long-term.”

Averages Moving in Pairs

With a weekly chart as the initial reference, we can then go about determining the long-term trend for a speculative trader. To do this we will resort to two very useful tools that will help us determine the trend. These two tools are the simple moving average and the exponential moving average.

Chart 1: May 2006-July 2008

In the weekly chart above, you can see that for the period of May 2006 until July 2008 the blue 20 interval period exponential moving average is above the red 55 simple moving average and both are sloping upward. This indicates the trend is showing a rise of the euro and therefore a weakening dollar.

In August 2008, the short-term moving average (blue) on the chart below turned down, indicating a potential change in trend although the long-term average (red) had not yet done so.

Finding the Change in Trend

In October, the 20-day moving average crossed over the 55-day moving average. Both were then sloping downward. At this point, the trend has changed to the downside and short positions against the euro would be successful.

Chart 2: October Short-Term Moving Average

Still looking at Chart 2, we notice that the short-term moving average goes relatively flat in December 2008 and starts to turn up, now indicating a potential change in trend to the upside. But a closer look at the 55-day moving average, as of December 2008, shows that the long-term moving average has remained downward sloping.

By checking Chart 2, we can see that the first arrow from the left indicates that the long-term moving average has turned down, indicating that the weekly or longer term trend for the EUR/USD has now gone down. The second arrow indicates where a new short position could have been successfully taken once the price had traded back to the down sloping moving average.

The goal here is to determine the trend direction, not when to enter or exit a trade. Of course, this is not to say that there were no trading opportunities in the shorter time frames such as the daily and hourly charts. But for those traders who want to trade with the trend, rather than trading the correction, one could wait for the trend to resume and again trade in the direction of the trend.

Trading Against The Trend

Hello, ladies and gentlemen. All we know the saying: “Trend – is your friend.” But sometimes so eager to enter against the movement … The price rollbacks very often and seems easy to get profit.

So can we trade against the trend? And if we can, how should we do it right? Today we will talk about trading against the trend. It is dangerous to trade against the trend; it leads to losses very often. But there are situations when you really want to get into the trade, although it is against the trend.

Overall, I would not recommend you trade against the prevailing movement. But if there is a situation when you really want to enter into a trade, then do it right at least.

And how to do it right, we’ll talk further.

Why is trading against the trend so dangerous?

The fact is that when we look at the history of the chart, which has already occurred, has been “emerged” and don’t look at the prices that exist in real time – we pay attention to the extremum, but do not pay attention to what that preceded them it.

And we see that there was setup at the top, and it was possible to enter and take a good profit.

It seems that the entry against the trend will be very, very profitable. But the fact is that we lose sight of the moments when the price has already been moving up for some time, some setups have emerged, but as a result of continued movement in the same direction. And if we entered against the trend, we would have lost a lot of pips and real money accordingly.

Let’s look at how this happens

Here we see a chart of the USDCAD currency pair. What do we see? There was uptrend for quite a long time. It would seem that the price has increased dramatically. There were long white candles, after which correction occurs most often. And Pin-bar emerges. It would seem that it worth to open sell trade.

What would happen if we had opened sell order?

So… Another strong bar upward emerges. Let’s measure it, there are 100 pips of possible loss. Here’s what it would be like if you entered to sell now. Let’s see what happens next. We have another bar. Then another quiet long bar upward. And the setup of Pin-bar emerges. Most traders will think that now then definitely it is time to sell!

Why do we need to be very careful here?

Many traders lose their deposits exactly in such situations. Because what happens next is not the movement, which they expected… A setup of Doji down emerges. If you were using pending orders i.e. you set a pending sell order just below the low point of our Pin-bar, then sell would be activated. So, you are in the market now. But what does await you: profit or loss? Price just went up. But stop-loss that, as we remember, should be placed above Pin-bar’s tail, at the top tail in this case, by the rules of the Pin-bar, is not triggered yet. We are waiting. Here is another neutral candle. And here is another pin-bar behind it. It triggered out our stop-loss.

What would happen if we entered in the previous Pin-bar?

What would happen if we decided that now we with 100% certainty can enter? Some traders increase their lot in the confidence that now will definitely be a strong movement down. Can the price increase indefinitely after all? And here is another Pin-bar setup. There emerges a bullish candlestick the next day. The price grows by another 120 pips and another Pin-bar emerges then. Well, from now on, the price will go down, with probability at least 1000%! Because how much can pin-bars emerge? A powerful rollback will definitely happen now! That’s all, the price must come down. Let’s suppose that you open the sell trade now. Price went down slightly. If we had entered with a pending order, it would be activated now. The neutral bar goes further. And…

Our Stop-loss is knocked out again! And a Doji emerges again.

Do you understand now why the entries against the trend are very dangerous?

Because, when we look at the history on the chart, that has now passed, we pay attention to the extremum only. Only to it. But all the setups, as they are the extremum, are profitable, of course.

The price really went down after the Doji. It’s unclear now if it’s going further downward or turns around and continues the trend upward. But the point is that the price can rise for a very, very long time. Moreover, it can go without corrections also.

Also, one should distinguish between trade against the trend when there is a clear trend, and you are trading against him, trying to enter the market against the trend from trading in the range. That is when there is no clear movement, any general uptrend or downtrend, but there are zigzag movements. Well, as it is here, for example:

When the trend is unclear, when it is unclear if the bulls or bears prevail now, we trade as usual as if we were trading with the trend, but we set more modest goals. That is, we trade from level to level, as it is unknown in the case of the range where the price will go. We don’t know if it will reach the level and move down or it will move up, forming a new trend.

Therefore, acting under conditions of uncertainty, we set small goals: we enter the deal, and our goal is the next level. We trade from level to level the most closely; do not hold the position for a long period of time.

It is more dangerous to trade in range than to trade with the trend, but it is less dangerous than to trade against the trend.

What are the signs of a good setup against the trend?

First, our entry should be preceded by a strong movement, as it is in the disassembled example of USDCAD pair. That is, there should be long and strong uptrend or downtrend.

Thus, the candlesticks should be large, large size compared to the previous ones. Compared to the average size of the candlesticks in this chart, this timeframe and this currency pair. That is, the candlesticks should stand out in the chart. For example, like this candlestick here:

Secondly, there should be a space to the left. What does it mean?

If there is some movement, trend movement as you think and you are going to enter, but you see other candlesticks to the left, it is not a trend, but range most likely. But if these candlesticks are far enough away from your potential entry, then the trend is not very strong here and the entry is not justified. It turns out to be not a range, and not against the trend, but it is not clear what it is. As they say, the market decides where it wants to go. In such situations, it is better to refrain from the entry and wait until the movement will show itself.

Thirdly, you can consider entering the trade, if there is a Double top. If the previous top was not so far away, or it was far away, but in this case, it would no longer be a double top, but the reaching of the level.

Also, if the price has run somewhere far away and it is in the air, and there is no support to the level, that is, when you scrolled the chart you didn’t meet this top before, or you’ve met it but very long ago.

For example, as it is in this chart. I scrolled the daily chart until 2009, and I didn’t meet this top.

This price was the price for this currency pair previously, but this price didn’t form any extremum anywhere nearby. Therefore, there is no any reliance on the level here. But if there is no reliance on the level, it is dangerous for entry.

Are there any moments when the entry is more justified?

Yes, there are, if the price reaches any level. Often, especially for those who trade within the day, it is useful to go to the timeframe above and see what happens there. Here we have daily charts. Let’s mark our top with level.

For example, we are about to enter here, and now let’s go to the weekly chart. Let’s see what this level is and what happens on the weekly charts. On the weekly charts, we have long candlesticks; there is a space on the left, clear uptrend and Pin-bar. If we scroll our chart a bit, what will we see? Was there such top before?

There was not, it is dangerous to enter now. And there is no such level on the weekly chart. If the level that we have marked was there on the weekly chart, the entry would have been more justified. But there is no the level on the weekly chart, so we work with what we have. However, don’t forget if in doubt, look at the higher timeframe.

So, I have listed you some of the signs of a good entry against the trend. But even these signs are not enough sometimes because such signs as a long candlesticks, space to the left, the presence of any good for entry setup — all this does not give us full confidence, as the price may continue moving.

But if you still need to enter the market against the trend… When is the best time to do it?

First, you should wait for all those signs I mentioned earlier. And in addition, you should wait until the price emerges High at least twice in a row at the same level. In this case, we can see it on this chart. The price reaches almost one level.

The sell price is 1, 1121. The price should not reach one and the same point. It is enough when it knocks out in the narrow limits of two or three pips (plus or minus). And when you see that sell price is in the same point for several days in a row, i.e. the price is not allowed to go upward; it is an indication that you can enter the trade. This is a sign that the trend slowed down at least and there will be a correction at least.

Because on the daily charts in order to keep the price below the certain level and sell from this level, again and again, you need a lot of assets and a lot of resources. This means that the strong player is in the market.

Therefore, in the case of the strong long trend, we wait until the price knocked out from one price level at least twice, and enter after that only. Moreover, it is best to enter near this level. And you should enter, of course, with a pending order.

Where can we do it better, in this case?

Here the candlestick emerged and it reached the price of 1, 1120. Another candlestick emerged, and it reached the same price for a couple of pips below. Let’s mark the level. What does it mean? This means that we have built a new level of which may be more sell trades.

After we closed the second candlestick that knocked out from the same point with High we put the pending order Sell Limit nearby the level. Let’s mark, where we would put a pending order. Remember, the price knocked out from the level of 1, 1120, so we put on 1, 1105. We put the pending order Sell Limit, as the price at the moment of closing the Doji is below the price we want to enter with. And stop loss is just above the level. At about the same distance at which we entered below the level, at the same distance above the level, we put the stop loss.

What goal should we set?

In the case of entry against the trend, we shouldn’t set any big goals, so our goal is the closest level. In this case, the nearest obvious level is far. Therefore, you can keep or you can secure yourself and just increase the stop loss 4 times. In this case, our stop loss is 40-45 pips. Let’s multiply it by 4. We get 160 pips. But as you can see, the price has reached this level. Our Take-profit would have been taken in this case. And the deal would have closed with a profit four times greater than this stop loss.

So only in this way you should enter against the trend.

In case if we had the level here, then we could enter easier: at the setup, at the Pin-bar, that would have the reference level. In the case when there is no the level, we wait until it is formed, that is when the price reaches some price mark twice.

These bars may not necessarily go in a row. There might be one or two candlesticks between them. But don’t wait for too many candlesticks: if five bars have passed, you can look for some new setups.

If we buy, we’d be waiting for the price knock out one price twice. Would wait for Low of two candlesticks reach approximately the same level. This would mean that big seller buys from this level. Also, if we enter at the set-up level against the trend, the stop loss would be according to the rules of setup.

A couple of tips for those who trade within the day

You can enter from the level of the previous day. You can take the level of the high point or low point of the previous daily candlestick during Day Trading, monitor the levels for the Daily Charts, and take the average daily range (volatility) as a goal or simply close the deal at the end of the American session, i.e., in the evening. What do I mean when I say to take the average daily range as a goal?

This is the medium size of candlestick from High to Low of this currency pair. That is, if the average size of the candlestick from high to low is, say, 100 pips, and the price has passed 80, it is natural to close the deal as the probability is very, very small that it will pass a large number of pips. How can we determine the average daily range – volatility?

Average daily range you can look at the ATR indicator, as well as on the website http://www.mataf.net

  1. Go to this website.
  2. Find Forex volatility section.

Choose the desired currency pair, EURUSD, for example.

There is the average range of candlesticks from High to Low here, even by the hour, calculated for the last 10 weeks.

Also, there is the average daily range from high to low in different days of the week. Here on Wednesday, we had on average 109,4 pips for the last 10 weeks. This number of pips the price on average passes from High to Low. An average of 140,7 pips is on Thursday, 100,3 pips – on Friday, 79,2 pips – on Tuesday.

And here you can see the final volatility of EUR/USD pair, it’s 101,9 pips.

Accordingly, if the price has already passed 100 pips since the beginning of the day, it is meaningless to open some new positions and go in the direction, where the price moved. And it is pointless to expect any bigger profits too. It is better to close the trade. When you trade Daily Trading, consider these data.

One interesting moment of a successful entry against the trend

Sometimes on the daily and intraday bars, there are such very long tails as it is here.

This is a good moment to enter. When the candlestick with such a long tail closed, you can enter immediately. Because it means that traders buy or sell intensively and there will be the momentum down. It always happens after such candlesticks, as a rule. You can be in such trade little longer. Not even to the nearest level, but up to the next level. And you can get very, very good profit.

It’s something like free lunch from the market. Because of everyone will enter here. Don’t forget about the stop-loss —put it either after the tail or near the end of the tail, and in no other way. As there are still spikes when marker makers try to knock out those who entered at this tail. That’s okay too. It is necessary to put a big stop here, but the profit can often be very large also.

Another good example for entry

Strong spike upward against the trend, you would have entered at the moment of close of the candlestick and then the price went down. You could wait until the nearest level and the next level also. It would probably be the best option to wait until the next level. Here you could get 129 pips, it is very, very good on the H4.

If there is any large tail, this is a good moment. Even if the trade is against the trend.

Let’s see the example when we buy. There was a strong movement down on the same chart, and then the price stopped. Once we see that the price stopped, it is an indication that you have to prepare. Here it knocked out from one level three times. After this Doji, we could put pending order buy limit. Almost at the same price Low of this tailed candlestick, then Low of this small one, and the next. And we could enter on this Doji. Stop-loss is just below the level that is approximately at the same distance, where the pending order is.

As we can see, the price made a false breakdown, bar left this price border. But the stop was not affected, and the price went upward again. Here you could wait until the nearest level. And you can exit later, but you would get your profit. And you could wait longer, but it is dangerous to wait for a long time in the case of movements against the trend.

I would exit at this level, it depends on how exactly you pointed it out, and because a couple of pips below you would get take-profit and a few pips higher you would not get take-profit. If there was not take-profit, I would have exited at this candlestick, as the long tail means the danger of the position in this case. And I would get 30 pips profit. These are 4-hour charts, and the stop-loss is just 10 pips.

That is, even if we close after this tail candlestick, without getting the take profit, the profit would be 3 times bigger than stop-loss is. And if we get the take profit, then the profit would be about seven times bigger than stop loss is.

Summary

Thus, summarizing, we can say that you can trade against the trend, but you should be very and very careful. If you are the beginner, I would not advise you to open trades against the trend. Very “tailed” candlesticks are the only exception, where even beginners can enter while keeping care.

Remember that you need to check the price more carefully when trading against the trend. The slightest hint that there can be a turn against your position now, you should exit the trade.

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