Technical Analysis Explained

Most experienced traders know that if they understand the state of the market, their trading will be much simpler than if they cannot tell the basic condition of the market. The most important distinction is that which seems the simplest: is the market trending or is it in congestion?

Sometimes this distinction seems simple, as in this example:

We see the price bars moving from lower left to the upper right of the chart, with successive lows getting higher and successive highs getting higher as well, and so even a novice would say that the market is trending upwards.

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Similarly sometimes congestions seem well defined and easy to spot:

Here the market is clearly not making any progress at all, and is moving sideways across the page. Most people would have little trouble saying this market is in congestion.

But on the margins and in places of transition, at the beginnings and endings of different market states, then the market condition can be more confusing. Furthermore the determination of trend or congestion can vary dramatically in different timeframe. A trend on a daily chart may be merely part of a congestion on a weekly chart, and an hourly congestion may in fact consist of a sharp 5-minute series of trends.

To untangle these trend-congestion confusions the very first requirement is to have a clear definition of what a trend is, and what a congestion is. The standard technical analysis definition of "higher highs and higher lows" will not cut the mustard, since we need also to know how many bars it takes to make a trend? will one do? Or must we have five? And so forth. Similarly the definition of congestion is somewhat constrained if we rely only upon highs and lows to tell us if we are in congesting or not, What if we have a simple pause in a fast uptrend and experience an inside day? The trend resumes immediately and we gain nothing by saying that the market has changed its "state" for that one single bar.

I have found the trend/congestion definitions of Drummond Geometry to be coherent, consistent, and helpful. They take into consideration every market state, are sensitive to quick changes in existing conditions, and can be very useful as the trader considers his entry and exit points.

In Drummond Geometry technical analysis explained, a trend is defined as starting when we see three closes on one side of the PLdot. (The PLdot is a three-period moving average of the average of the high, low, and close, displaced forward one bar.) This definition has been found empirically to be very close to the ideal as tool for determining a trend. Trends defined this way start quickly, as soon as new energy enters the market. Because it reacts to new trends so well, it gives excellent support and guidance in trade entries to the trend-following trader.

In Drummond Geometry the end of a trend is also the start of a congestion. Thus when the market (having had three closes on one side of the PLdot), now closes on the other side of the dot, the market is in congestion. So by definition the market is either in congestion or trend, and the relationship of the close to the PLdot determines this state. It is a simple, clear, and objective rule.

Drummond Geometry further distinguishes some additional sub-categories of congestion: congestion entrance, congesting action, and congestion exit. These refinements need not concern us here, and can be discussed in another article; suffice it to say that the finer distinctions of congestions give the trader a great deal of additional support.

What advantage does this objective definition of trend vs. congestion give us as traders?
It gives us a leg up in determining where we place our entrance signals, and how we define our target exit signals. The object is always to buy support and sell resistance, but the location of this support and resistance is located in different places in congestions than in a trend.

In an up- trend, support levels are rising and one can enter the market and buy the appropriate trend line. I like the PLdot charted as a line and use that as an entry signal in trends as it is reliable, constant, and sensitive to changes in the trend.

In a congestion, traders can buy or sell the confines of congestion as the market oscillates back and forth between these limits of the congestion.

For the topic of technical analysis explained, there is much more to be said about how to place trades in either a trend or a congestion market state. Furthermore the addition of multiple time periods and the relationship of trends and congestions within these timeframes can give the trader a great deal of structure within which to place high-probability trades. Technical analysis tools can help a great deal, and trend definitions are the starting place. So it repays the effort to get a rock-solid, objective and universally-valid definition of trend and congestion market states before proceeding deeper into technical analysis.

Here as a part of the Technical Analysis Explained series where congestion entrance is discussed .

We already know that the market can move from congestion to trend and on from trend to congestion , in a continuous cycle, constantly going on over and over again . As long as the markets have been around, this has occurred and as long as there are markets, it will continue to happen. The only times when we do not see this cycle occurring include times of regulation, constraint that is artificial, and intervention , such as market suspensions, price-fixing, price limits, market regulation and the like - and this only causes a temporary disruption . As long as there is variation in supply and demand , and as long as human beings come together in trade and act on their differing perceptions of value and opportunity , markets will engage in trends and congestions .

There are different names this can be called . Often the idea of equilibrium and disequilibrium are discussed, others talk about horizontal and vertical movement describing chart movements, there are some that talk about the upward movement as distribution and the sideways movement as development . It's all just the very same thing with different terms.

Trends are moves that carry us progressively in one direction ; congestions are times when the market is fluctuating between support and resistance and moves across the page in a horizontal manner .

In some of the previous articles in the Technical Analysis Explained series that there is a clear definition of a trend - it includes on one side of the Pldot, three bars that show up consecutively. Since a congestion is the opposite of a trend , we expect our definition of a congestion to be simple as well , and it really is . A congestion occurs in the market when it does not close on one side of the PLdot for three consecutive periods . How could this be anything else? We say the market is either in a trend or not , we're already aware of what a trend happens to be, so congestions are everything else . Markets are either in congestion, or they are in a trend.

Now we break our discussion of congestion into three separate lessons , as we define three types of congestion - congestion entrance, congestion action, and congestion exit . But here, as an overview, let's just set down the definitions .

Congestion entrance trading occurs after the market is in a trend with three consecutive closes on one side of the Pldot , and then the next close occurs on the other side of the Pldot . So that bar , closing on a different side of the Pldot than the other previous three, is the first bar of a congestion , and after the trend, it's the first bar.

Congestion action trading happens when the market goes back and forth , and as it goes forward, it closes on either one side of the Pldot or the other . In the next article we'll discuss this more in the Technical Analysis Explained series.

Congestion exit trading occurs as a new trend is about to occur and the market is leaving congestion. No doubt this makes sense. If the market violates congestion confines, either the block level or the dotted line , the market is showing signs of congestion exit trading. When it comes to congestion exit trading, there is a lot to say, and it is a most attractive topic . However, this is for another article and we won't go into more detail right here . Keep an eye open for articles on the topic later.

A good trend is loved by traders . One is wanted by everyone , for their very own , and this is understandable, since a great deal of money can be harvested in a good trend .

But how do we trade a trend ? Various tactices can be used. Older traders sometimes say trends are pretty easy since any old trading plan will work . Because there is one direction to the prices, even if you have a poor trade position when you enter , it doesn't matter , since the trend will bail you out in the end . Some truth is there within this maxim, but many refinements can be brought into trend trading.

When it comes to market analysts, one thing they learn is that technical analysis explained how trends can early on be recognized, and the trend as defined by Drummond Geometry , based on the Pldot and close relationship , allows us to do this. You'll probably remember that the definition is three closes on one side of the Pldot defines a trend . After the third close you are in a trend .

There is importance to this because a trend's most lucrative and best part often occurs early on, when it all starts. Then after a trend is recognized the thing is to hang with it as long as it exists . If possible , you want to add to your position by pyramiding , so you grow profits quicker as the trend develops.

Definitely getting on a trend and sticking with it is one of the best ways to make money in trading . If your education has taught you nothing else, you should at least know that how your style of technical analysis explained trend formation is one of the basic building blocks of any trading system .

You may think this sounds good, but how can you time your entry into a trend? And how is a trade manage in a market that is trending?

Of course trends are not all the same , there are slow ones and fast ones and some are young while others are old .

A fresh new trend is what we'll look at first. There has been congestion in the market for awhile, for some days if you're a swing trader , or for day traders for quite a few hours. The congestion parameters are quite clear . Then conditions suddenly change , frequently (but not always) news driven . The market begins moving in a direction quickly .

This is when fast action needs to be taken . Get in the trends direction as fast as possible and then hang on . The point you enter is less important than you jumping in. This move will last for days or hours so the sooner you get on board, the better off you'll be! As it breaks the parameters of congestion you can buy into this trend or as the next bar retraces to the top of the trading bands . If it is a real trend based on fresh new energy , deep retracements won't occur for some time!

Compare this to a trend that is mature . Can you still get aboard ? Yes, but if the energy is "mature" and starting to lose a bit of its oomph , then you will need to be more cautious in your entry techniques . If this occurs you need to look for a trend pause , at the very least a retracement of the price to the midline. Ensure there is enough potential there by checking on the higher time period , enough to make it worth entering this no-longer-fresh trend .

If you are uncertain about these guidelines some time spent examining a chart will surely bring your understanding to a higher level . Most traders will benefit from taking a closer look at technical analysis explained in a good course, as entry and exit skills are honed .

Entering and exciting congestions will be our next topic .

We speak here of congestion action trading . Congestion action in a market is a market that oscillates back and forth between the confines of congestion , between support and resistance (or, in Drummond Geometry terms, between the dotted line and the block level ). Within congestion this market action occurs, and when there is not a trend run. The level that is created by the highest high of the up trend that preceded is the Dotted Line , or in a down trend, the lowest low . The low of the very first bar that closes on the other side of the Pldot within an uptrend is the first Block Level , or the high of the very first bar on a down trend that closes on the other side of the PLdot.

Once you really have a good understanding of the patterns, characteristics, and theory of congestion action trading, it can be quite lucrative . It is like harvesting a crop, or slaughtering the fatted calf . You can earn your bread and butter with congestion action trading.... and even more, you can buy the table to hold the bread , and the house to hold the table , and the estate to hold the house , and a car, driver, plane, boat, and anything else you want . Essentially, congestion action trading holds a lot of potential for you , if you take congestion action trading and learn all you can.

Congestion action trading - what is it ?

One effect of technical analysis explained in this way with Drummond Geometry is that you have clear definitions . There is a trend run for prices or there isn't . It is not is a trend run when after three or more closes on one side of the PL Dot it closes on the other side of the PLdot . When the market is not in a trend run, then it is in congestion . It's all quite simple.

When the price ends up closing on the other side of the trending dot, the first bar is the congestion entrance bar . Then, but definition, there is congestion in the market. We know when the market first enters congestion this creates a dotted line and a block level . This particular block level if the very first block level of this congestion. This means, the name for this market action is congestion action which begins with a congestion entrance bar and goes on for a time that is indefinite until there are three closes on the PLdots one side , which marks the start of a new trend .

Let's take a look at how congestion limits are defined with technical analysis explained, and how they can expand .

The parameters of congestion are defined by congestion action , also called the confines of congestion . You will remember the block level and the dotted line are what define the confines of congestion , and the congestion entrance bar is what establishes the first block level . But these levels can be expanded . If prices goes outside the dotted line, or outside of the block level , while still in congestion ( without three closes being on the PLdot's one side ), then price redefines the congestion confines and a larger congestion can occur. Before a new trend run occurs, this can happen various times.

Next time we'll talk more about congestion trading in the technical analysis explained series.

Let's continue our discussion of congestion action trading in our series of articles on technical analysis explained.

Until a new trend run occurs, congestion cannot be exited . Without a new trend run, the market is in congestion . Congestion exit is defined as a trend run out of the confines as established by the previous action of congestion .

Let's use emphasis that is a bit different and say this again .

Congestion action can be said to do two different things.

One: It creates strong original confines .

In the second place, strong expanded confines are created .

It's the congestion entrance bar by which the original confines are created, which happens to be the first bar of congestion action, and the second bar of action, which is the next bar , and the third bar if a trend run doesn't occur. The confines are determined by the lowest low and the highest high of these bars , as are defined by block level and dotted line. These are the original confines of congestion .

We should point out here that in congestion the third bar price , ends up doing one of two things. Price either:

1) Enters into a trend run, and thus into congestion exit, and trend reversal , since the third bar closing on the other side of the PL dot isn't confirmation of congestion action. The original confines then determine the congestion confines , as set out by the highest high and lowest low of the first two bars . OR...

2) The close occurs on the PL dot's other side , and thus continues congestion action . Original congestion determines the confines of congestion in this case , as the lowest low and highest high of the first three bars sets out .

Then there is expanded confines.

Expanded confines can be created by congestion action by moving outside the original confines of congestion or any subsequent confines , as long as in the meantime there hasn't been a trend run . When price leaves the latest confines, the confines of congestion are then redefined. From then on, any congestion exit deals with this redefined confines, and not the original confines .

( Of course, it should be noted , that the original confines can have an effect on price , since any line or level can do so , but generally speaking , the true confines can be built through repetitive congestion action , without the appearance of a trend run .)

Without a trend run, then there can be an expansion of the confines. Only when price moves into a trend run and exits congestion can we say for certain that the final boundaries of congestion have been defined .

When it comes to Drummond Geometry , technical analysis explained defines the congestion in a manner that is consistent and clear, and gives us a framework that we can work with in identifying the confines of congestion under any circumstance .

Later in the technical analysis explained series we'll look closely at congestion entry and exit. We will find it useful that we have established the clear definitions about congestion .