Forex trend analysis is all about predicting trends in forex. It is perhaps one of the most fundamental things a trader could do.
Without understanding how the forex markets trends, trading forex is more of a gamble rather than making an informed choice.
A trader might dismiss the important of spotting forex trends, citing that they use a different strategy. Bu no matter what forex trading strategy you use, trends cannot be ignored. After all, it is only when you know the forex chart trends, are you able to understand what the market is doing.
This article about forex trend analysis gives you a detailed approach on understanding the trends in forex. It will also show you how you can use the forex chart trends to determine which way the market is moving.
At the end, there is nothing complicated about spotting forex trends. You may have seen this at some point in your life. Be it a new clothing brand or real estate. Trends are everywhere and spotting forex trends is key to your success.
Before we go any further, let’s talk about trends in general.
What is a trend?
A trend is nothing but a steady increase of interest in something. This can be a clothing brand, a certain type of car, or anything else. Think of fidget spinners or even cryptocurrencies. Trends appear when the interest in something surges.
Similar, as the interest in the product or asset falls, the trend beings a downward trajectory.
As an illustration, take a look at the below trends chart from Google about fidget spinners. You can see how the trend showed a sharp rise between the years 2017 – 2018.
Following this, interest in fidget spinners wore off over time.
Trends in forex or the financial markets in general work similarly. There is rising and a steady surge of interest in an instrument (a currency) or a financial asset (stock, or an ETF, etc).
When there is such a rising interest, the price of the asset starts to rise gradually.
Now that we understand what is a trend, let’s talk about the types of trends in the forex markets.
Types of trends in forex markets
There are two types of trends in forex markets. The uptrend and the downtrend. Both of these are equally important. The types of trends in the forex markets will tell you what the general or the broader interest is, for that asset. When there is an interest in a currency pair, you will witness an uptrend. Similarly when this interest starts to wear off, you will see a downtrend in forex markets.
What is an uptrend in forex?
The uptrend is defined by a gradual increase in prices of a currency. This is when price of the currency pair or the exchange rate starts to rise rapidly or in a gradual manner.
There is a lot of interest in the markets to buy that particular asset.
During an uptrend, you will see prices rising gradually from the bottom left side of your chart to the top right side of the chart.
What is a downtrend in forex?
The downtrend in forex is the exact opposite.
In a downtrend, you will find prices gradually or rapidly falling. This is because of dying interest in the asset. The reason for the decline in prices in a downtrend is because investors (people) want to liquidate their inventory.
The idea behind a downtrend it to sell into the decline. On the forex chart trends are visible by prices falling from the top left corner of the chart to the bottom right corner.
A closer look at forex chart trends
While we have defined what an uptrend and a downtrend is, prices can also move sideways. This is when the interest in the asset is not that much. During this period, called as consolidation, the forex markets move within certain price levels.
More importantly, unlike the forex trends, here you will find prices trading flat, moving sideways and not doing much.
When observing trend analysis in forex, one should focus on the timeframe relative to the trend.
For example, you may find that there is an uptrend on the daily chart timeframe. On the other hand, you may find that there is a downtrend on the 30-minute chart timeframe.
Does this mean that the trend is changing? Or does this mean that the market is fickle?
Well, not really. As we mentioned, trends are relative to the time frame that we are looking at.
On the daily chart, you may see that the trend is rising steadily. But on the short term charts, you may find this to be the opposite trend.
This is perfectly normal because it not all the time that trends across different time periods will line up.
The general rule of thumb in forex currency trends analysis is that the larger trend dominates the smaller trends. This means, that unless there is evidence that the trend on the daily chart is shifting, the prevailing uptrend takes precedence.
How to determine forex trend direction
To determine forex trend direction, traders need to look at the relative trends and not in isolation.
Many traders make the mistake of just looking at the daily or the weekly charts to identify the trend. But this is incorrect as it can be misleading. Spotting forex trends requires multiple time frames down to the time frame from which you will be trading.
As we mentioned, trends seldom move in a straight line. The chart below shows a comparison between the daily trend and the short term trend.
While we see a steady rise in the trend on the daily chart, on the short term chart, you have various spikes and troughs in the making. Since we notice a downtrend taking shape on the smaller one-hour chart time frame, does it mean that traders should go short?
Obviously not! As you can see, this was merely a correction to the larger trend. Following this brief dip, price soon emerges back into an uptrend. Therefore, when trading trends in forex, a trader should bear in mind what the major trend is. Only then will they be able to draw some context. This trend analysis in forex allows traders to place their trades in the direction of the trend movement.
Why is a trend important in trading?
No matter what trading system you use, trends are important when trading forex or any other markets. Trends tell you which way the market is moving. You certainly do not want to trade in a direction that is opposite to the trend. This is the reason why, analyzing forex currency trends across the time frame is important. Without having a clue of the direction of the market, this can prove to be disastrous.
There are trading strategies that work contrary to the main trend. But these trading strategies are difficult to implement and requires quite a bit of knowledge for traders. You should be adept at understanding which way the market is moving.
And the only way to know this is by looking at the forex market trends in general.
There are many ways to spot the forex market trends. In the next section, we will talk about some of the most popular forex trend indicators that you can use. However note that you do not need to use an indicator. You can also spot the currency market trends by simply observing the charts.
This may take a bit of practice but you will soon be able to master predicting trends in forex.
Most popular forex trend indicators
There are quite a few indicators you can use to determine the forex trends. Some of these trend indicators are tried and tested. Every day, you will come across some new indicator that promises to be better and predicting forex trends. But the fact is that all indicators are one and the same.
The most important component for a trend indicator in the currency markets is of course the price. And just about every indicator will use price as its key input.
Moving averages to predict currency market trends
The moving averages is an indicator that measures the average price over a period of time. For example, if you have a price chart with daily close, then with a moving average setting of 20, it will calculate the average price over the past 20-day period.
To predict forex market trends, traders make use of two moving averages. One is the long term moving average while the other is a short term moving average. Depending on how these two moving averages are positioned, traders determine the trends. The logic with spotting forex market trends is simple. When the average short term price is higher than the average long term price, the market is in an uptrend.
Likewise, when the average short term price is below the long term price, then the market is in a downtrend.
Traders also use just one moving average to determine the trends in the market. Generally speaking, when the current price is higher than the average price, the forex market is in an uptrend. Similarly, when the current price is below its average price, the market is in a downtrend.
Within the scope of moving averages, there are different ways to analyze trends.
Parabolic SAR for forex trends today
Parabolic SAR or Stop and Reverse is an indicator that you can use to determine the very short term trend. This indicator is not useful when trying to understand what the long term market trends are.
What this means is that the Parabolic SAR shows the short term corrections in the trends as well. This should not be confused for the trend shifting immediately.
The parabolic SAR indicator plots dots above and below the price. It takes into account the closing price and plots these dots continuously. When the PSAR dots are below price, the markets are in an uptrend. This is because they continue to make higher highs. Likewise, when the PSAR is below price, the market is in a downtrend. This is because prices in the market continues to make new lows.
When either of these dots (above or below) price is breached, the trend is said to change.
But again, bear in mind that the trend change is not this quick. The PSAR merely shows the corrections happening in the price.
ADX or Average directional index for spotting forex chart trends
ADX is short for average directional index. This is an indicator that can measure both the trend direction and the trend strength. As an oscillator, the ADX is plotted in the sub-chart. It comprises of two lines known as the DI+ and the DI-. When the DI+ is above DI-, the market is in a downtrend. This downtrend’s strength is further measures by how the ADX line is positioned.
Traders set a threshold of 25 as the level. This means that if the ADX line is above 25, and DI+ is above DI-, it indicates that the market is in an uptrend.
Similarly, when DI- is below DI+, it will suggest that the market is in a downtrend. The level of the ADX indicator will determine whether the downtrend is strong or not. The ADX indicator is a medium term trend indicator. Similar to the Parabolic SAR, the ADX indicator is also sensitive to the short term market movements. Hence, despite the main trend being strong, the ADX can continue to show the corrections as a trend change.
Donchian channels for predicting long term forex trends
Donchian channels are optimal because they reflect the real long term trends. As the name of this indicator suggests, Donchian channels show the highs and lows over a period of time. When the high or the low is breached, the channels tend to shift up or down.
Consequently, what you have is a price channel with boundaries that can either move up or down, depending on the price direction. The Donchian channel was published by Richard Donchian, who is a well known trend trader. When you use the Donchian channel, you don’t need to use moving averages or any other indicator, because it does the same job.
However, the way the Donchian channel displays the markets trends is somewhat different. Visually, Donchian channels can show you both the highs and the lows and how they are moving.
Is there a best trend confirmation indicator in forex?
So far, we have seen the top four most common trend indicators. Each of these indicators has something different from the other. Also, the way they measure the trends can change quite a bit.
Traders often ask the question if there is a best trend confirmation indicator in forex. The answer to this depends on what indicator you are using and how well you know about it. Generally speaking, a trend indicator such as moving average is more than enough to depict the trend. You don’t really need any additional indicators to confirm this same trend.
This is one of the biggest mistakes forex traders make. They use similar indicators that convey the same meaning. As a result, these redundant indicators don’t really provide much value to the trader. At the end, using multiple redundant indicators will only help to clutter your charts instead of providing any meaningful information.
How to predict trends in forex
To predict the trends in forex, you can employ either an indicator or look at price action itself.
Both of these methods of analyzing forex trends works and one does not beat the other. When using price action to predict trends in forex, you will of course need to be more experienced. Many beginners in forex trading will find price action based techniques quite intimidating. This is because price action itself is highly subjective. Therefore, in order to bring some meaning to the market, one can end up interpreting the trends in the markets differently.
You will not know what you did wrong until the market proves you wrong. Hence, traders can pick one of these two methods to predict trends in forex.
From a fundamental perspective, traders can also look at clues from the markets in general.
For example, interest rates plays a major role in shaping trends in the market. And in turn, it is the economic indicators that help shape up the market’s perception of where interest rates will be.
Therefore, using fundamental analysis, one can effectively gauge and predict trends in forex.
Does trend trading forex work?
It is not without a reason, there is a saying that the trend is your friend, when it comes to forex.
Trend trading is the most effective way for anyone to trade. The reason is because when you are trading with the trend, you are trading in the direction of the trend. But this should not be taken at face value.
Trend trading in forex can work as long as you know where and how to trade.
As you have learned in this article about forex trend analysis, trends come and go. Hence, if you blindly follow the concept of buying into a trend, you will see different results. Buying at the very top of the trend (which most traders do) can be disastrous.
A very good example of this is the crypto markets. During the 2021 hype in the markets, crypto currencies like Bitcoin and Ethereum rose to new highs. This led many people to buy into this trend. However, in just a few weeks, the crypto markets tanked. Yes, this can happen and you cannot blame that trend trading does not work.
Timing of entry and exit in the trend matters for traders.
Buying near the highs or near the lows can lead to losing trades even though you are effective trading with the trend. Many traders do not understand this and eventually give up on trend trading.
They begin to make claims that trend trading strategies does not work. When in reality, the approach used to analyze trends in forex was completely wrong from the beginning.
Traders should also hone their skills when it comes to trend trading. Using forex backtesting, you can effectively use your trend trading strategies to see how they performed in the past.