I believe most of us are
familiar with the terms of supply and demand in economy. These help to
determine prices for goods, services and also securities. If a lot of people
are willing to buy some product, the price of it will increase. If, on the
other hand a lot of folks would be willing to sell some product (get rid of it)
the price of it will fall. If these two are in equilibrium the prices will
probably stay at the same level for some time or fluctuate a bit. The principle
of supply and demand is important in financial markets too. A smart investor or
speculator will look for areas where demand increases and supply decreases to
start buying and for areas where supply increases and demand decreases to start
selling.
Become a popular investor at eToro and make money
Become a popular investor at eToro and make money
Now, this is easier said,
than done, but for a trained eye it is not so difficult to see a shift between
supply and demand in technical charts. When people ask me where I will start
selling Euro or Australian dollar, or any other security I answer:”When more
sellers will step in”. I do not have pre set targets for starting selling or
buying when a level is reached. I might take profit at some point, but it does
not mean I will start actively buying or selling. Why? Why should I if I do not
see big boys changing the course? If the price is constantly rising you should
not think about being bearish. The demand for security is still great. So why
sell? Don’t. If you do you will only freeze your capital and wait impatiently
for prices to reverse. It might happen soon, but if you start selling without
any signs of reversal in supply and demand you are merely gambling, not
investing. This is how lots of fund managers lost billions. They trusted too
much their approach and predictions and became bearish or bullish too early.
They started catching ‘falling knives’ and got hurt. Do not follow their
example. Better train your eyes to see what dominates in the market: supply or
demand and trade accordingly. You also have to wait and learn to see when
supply gives way to demand and vice versa.
Support and resistance versus supply and demand
Some people like watching
support and resistance areas instead. It is ok, but not enough. These merely
indicate what happened some time ago. Conditions might have changed and these
areas may no longer be valid. Take as an example eur/usd pair. If you study
daily charts you will see that according to classical technical analysis
definition 1.3000 was a strong resistance. If you were going long in eur/usd it
might have been a good level for you to exit your longs and have nice profit.
On the other hand, it does not mean you have to start selling there. Why? Like
I said, conditions might have changed and this area might not be resistance
now. Taking into account the statement of FED that they are planning to keep
interest rates as low as they are now till 2015 you might have more bullishness
in Euro and much bearishness in US dollar in the nearest future. You see how
the price pierced through 1.3000 level without stopping. What about our
classical technical analysis rules: support becomes resistance? Well, it
sometimes works, it sometimes doesn’t. You have to learn to follow price action
and see the actual (current) levels of change between supply and demand and
only then become a bull or a bear.
How do you see that?
If a price is in a free fall
you should not start buying. What you have to wait for is significant bounces
that stop prices from falling further. It happens that when prices break
through some level and we have very strong move (up or down). It is pointless
to resist the move by going in the opposite direction. Better stay with the
move. However, as time goes one you start seeing rallies against a prevailing
move. If the price has been falling you suddenly see strong buying coming at
certain levels. Do not mistake those with taking of profits. No. You have to
watch how these happen. Long bullish candles would indicate that buyers start
coming in. A lot of small candles would mostly mean that there has been some
profit taking and this will definitely not stop prices from falling.
However, one bullish move up
will probably not change the direction so fast. Sellers will again step in and
prices will resume their fall. However, with the next low formed you will
probably notice more buyers coming in. Prices will run up again. Sellers will
probably step in again, but this time there will be fewer of them. Depending on
the strength of the downward move and inertia the process can continue for some
more time till you will start seeing higher highs and higher lows. This would
be a sign that demand is bigger now than supply and bulls have taken over
control from bears.
The important point here is
how the price leaves certain area when the prices are still going down. You
want to see big (really big bullish candles), not a cluster of small ones. Time
comes and you start seeing these candles. Price suddenly rallies upwards. These
are first signs of buying. It does not mean the bearish trend is over. You want
to see more. After some time you see more of these candles. And more….! And
finally bulls take over control from bears and prices explode upwards. (Look at
gbp/jpy example below)
You can also look at the
examples below (eur/usd pair) how bulls try to resist bearish trend and finally
win. However, when you see a bearish trend you have to be on the selling side,
not on the buying. You can see in the first chart how Euro bulls try to stand
up, but they are standing only on one leg. I want to see a security standing on
both legs before start real buying. That’s what happens in the second chart.
Applying this supply and demand idea in practice
At the end of a major move
you will probably see a lot of bears and bulls in one place. Finally the shift
of power will take place. What you really want to do is to start playing from
bull’s side if the trend is becoming bullish and from the bear’s side if the
trend is becoming bearish.
If we take example with
eur/usd in the second chart (look up) you see how accumulation takes place in
the pair. Bulls coming in with a lot of buying pressure causing bears to resist
or simply close their positions. The price for some time is still in horizontal
trajectory with very small upward direction. That’s when you have to start
buying, because at some point pressure upwards will become so strong that the
price will simply shoot up very fast and it will be not very logical to start
buying there.
So, when you see prices
coming down to the place where buying takes place start buying and placing your
stop orders below the most recent lows. Take a few orders, close one at the
previous high and keep the other one open. Accumulate your position and go up
with the price till you start seeing the shift of power again. Then reverse the
process.
Ok, I hope the article was useful. I will surely expand the topic soon with more examples and more ideas from most recent trends in the market. Good luck.
Ok, I hope the article was useful. I will surely expand the topic soon with more examples and more ideas from most recent trends in the market. Good luck.
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Disclaimer
Trading
financial markets carries a high level of risk, and may not be suitable for all
investors. All information on the blog http://trend0.blogspot.com/ is of educational
nature and cannot be considered as advice, recommendation or signals to trade
in any financial markets.