The Hindu Business Line : Trader's Corner

Trend identification can be called the keystone of technical analysis. The price typically moves in a wave like motion forming a series of peaks and troughs. The direction in which these peaks and troughs are moving is called the trend. In an up trend, we have a series of higher peaks and higher troughs. In a downtrend, we can see successive lower peaks and troughs. When the peaks and bottoms move horizontally we call it the sideways trend.

The weekly chart of Sensex mimicking the Indian rope trick is the classic example of an up trend. Take a look at the weekly chart of Jet Airways if you want to see a downtrend. The movement of Ing Vysya Bank stock since 2004 would remind you of a heady roller coaster ride. That is a sideways trend.

Trend identification is done with the help of trend lines. Constructing a trend line is fairly simple. When the stock is in an up trend, the trend line is constructed by joining the troughs formed during the up trend. Conversely, a down trend line is formed by connecting the peaks formed during the downtrend.

Trading with trend line is also rather straightforward and it is one of the first tools that a technical analyst learns to use. A buy signal is generated when the stock price moves above the down trend line. A sell signal would be generated when the stock price moves below the up trend line.

Let us elucidate with an example. Andhra Bank has been in a downtrend ever since it peaked at Rs 98.5 in November 2006. The next significant peak was formed at Rs 92.9 on February 2, 2007. We should join these two peaks with the help of a trend line. This downward sloping trend line is positioned at Rs 86 currently. So, a buy signal will be generated only if the stock moves firmly above Rs 86.

It is often observed that the trend in a stock can vary across time frames. If we revert to Andhra Bank, the long-term trend in this stock is up, the intermediate and medium-term trends are down and the short-term trend is up. It would be safer to trade long in stocks in which the trend is bullish across all the time frame such as Reliance Capital.