TRADING PRICE ACTION PART 1

 Risk Warning

Risk Warning: Trading Forex and Derivatives carries a high level of risk. CFD investors do not own, or have any rights to, the underlying assets. It involves the potential for profit as well as the riskof loss which may vastly exceed the amount of your initial investment and is not suitable for all investors. Please ensure that you fully understand the risks involved, and seek independent advice if necessary 

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What is Price Action Trading?

The “Price Action” method of trading refers to the practice of buying and selling securities based on the fluctuations, or “action,” of their prices; typically the data of these price changes is represented in easily-readable candlestick or bar charts, which are the bread and butter of the price action trader. Traditionally, price action traders rely on a “naked” chart – they reject the inclusion of indicators with the conviction that, since all supplemental indicators are necessarily lagging interpretations of the basic data available on the price chart, the action of price is itself the most reliable and accurate indicator. The patterns of price movements reveal in real time the balance between the supply for sale and the buying demand of any given security or currency pair. Any price change implies a shift in the relationship between buyers and sellers; an increase in supply will push price down, whereas an increase in buying demand will send price higher. The price action trader bases their trades on predictions of whether buying demand is greater than the supply of sellers – and therefore price is poised to head higher – or vice versa. In the Forex market, this means that a trader will endeavor to buy (or “go long on”) a currency pair when the base currency, the one quoted first, is likely to appreciate against the counter currency, the one listed second; conversely, they will sell (or “go short on”) a currency pair wherein they expect the counter currency to appreciate relative to the base currency. In order to make these predictions, price action traders interpret the confluence of many factors, particularly trends, candlestick patterns, and price levels known as “support and resistance.” This guide is intended to provide an introduction to these interpretive factors, to the risk management practices essential to profitable trading, and lastly, some examples of real trades that demonstrate these ideas in action. As such, we’ll start with a review of candlesticks and how they are plotted on charts, as this information is the fundamental building block of the science of price action trading.

Support and Resistance

The price action trader pays particular attention to pivotal price levels, often “drawing” these lines horizontally as Support and Resistance levels. The theory behind employing these lines is that the market has a sort of memory: price behaves with respect to certain levels that have previously been significant turning points in the historical narrative of the price’s action, and other market participants are likely  to also be trading with consideration for these levels. When the levels are below the current price, they constitute “Support,” a potential buffer against bearish movement; when the levels are above the current price, they appear as “Resistance,” a potential barrier to bullish movement. As price comes close to these levels, traders often wait until the levels have been tested and either broken or defended before they are confident enough in the direction of price’s movement to enter into a trade.

Key Candlestick Patterns: The Timeliest Indicator

Since candlesticks are the basic visual unit of the price action chart, recognizing their implications within the greater narrative of price is crucial to the price action trader’s ability to enter and exit positions at the most advantageous times. The relationships between the four price levels that make up each candle – open, close, low, and high – have strong implications about the future direction of price. Candlestick patterns can often be the most timely indicator of the balance between buying and selling demand.

Long Wick Patterns 

Long wicks indicate areas where price can be pushed quickly in a short amount of time and potential reversals in the direction of price. We can deduce from a long wick that price made a big move after the open, but it was pushed back before the candle closed; for example, a long wick underneath a candle implies that sellers were able to push price down considerably, but the pressure from buyers pushed price back up before the close of the time period. If this power struggle between bears and bulls is conclusive, it may anticipate or initiate a reversal in the direction of price by the triumphant side; reversals can be the most desirable times to enter or exit trades. If a long wick can also be found intersecting a major support or resistance level, it may confirm that traders are ready to defend/ challenge that level.