[Effective Trading Strategy using Line Charts]- Steemit Crypto Academy | S6W1 | Homework Post for professor @dilchamo
Question 1
Define Line charts in your own words and Identify the uses of Line charts.
Line Chart
The line chart is a type of price representation chart that uses a single oscillating line to indicate the price movement of an asset over a specified period. The line chart is plotted with sensitive price data, which is the closing price of an asset over a specified period. This provides a simplified price chart which results in smoothening the noise generated from random price fluctuation as the price is represented with a simple continuous moving line, thus giving a clear representation of price and clear directional bias relating to the current trend and trend structures.
The simplified representation of price using a line chart when compared to other forms of price chart representation like a bar chart, candlestick chart, makes it easy for traders to identify the market condition at any given interval, which helps improve the trader's forecasting probability, resulting in simplified profitable trading.
It's important to note that though the line chart provides a simplified view of price movement which makes it ideal for beginners to use in starting their trading journey, other chart patterns use other sensitive price data like the opening price, high price, low price to provide information about price movement.
Uses Of Line Chart
Line chart provides all-round usefulness, some of which includes:
1- Simplified Representation
The most common use of a line chart comes from its ability to represent price movement in a simplified manner. This helps traders to identify the current trend, the trend structure, and precise visualization of possible price movement. This also helps new trades learn more about price development over a specified period.
2- Identifying Resistance and Support
The line chart is ideal for identifying key resistance and support areas in a price chart. As previously mentioned, the line chart is plotted using the closing price of the asset at any given interval, this provides an aggregated price record that indicates areas of heavy resistance and support. Generally, traders use line charts on higher time frames (Monthly, Weekly, Daily) to plot key resistance and support levels.
3- Trading Opportunities
Line charts like other chart patterns provide traders with viable trading opportunities. A line chart can be combined with indicators or other forms of technical charting techniques to identify profitable trade setups. This concept makes trading easier and simpler.
Question 2
How to Identify Support and Resistance levels using Line Charts (Demonstrate with screenshots)
Identifying Support and Resistance Using Line Chart
Resistance and Support levels are key swing price point where an evident reaction between buyers (buying pressure) and sellers (selling pressure) reside. These price points serve as a historical reaction zone for the price as pending trade order is placed around those levels, this results in the rapid reaction of price around those levels, which can be rejected (bounce off) or violated (broken). Ideally, strong resistance and support levels are determined by how many times price reacted around those levels previously thus, serving as both resistance and support level in the past.
To identify a resistance or support level using the line chart, price should react to the horizontal level at least 3 or more times in the past in correlation to the current price. This indicates that the resistance or support level is relevant to the current price movement. To illustrate this, I will explain below:
Resistance Level Using Line Chart
A resistance level is an area where buying pressure is exhausted, allowing sellers to prevent further up movement of price. Ideally, huge sell pending orders is placed around key resistance areas, which in some cases result in price rejecting (bouncing off) the resistance level, resulting in a trend reversal (bullish to bearish).
It's important to note that the strength of a given resistance level is dependent on the time frame used, resistance level identified within short trading time frames like 5 Minutes, 15 Minutes, 30 Minutes, is relatively ineffective when compared to resistance levels identified on higher trading timeframe like Daily, weekly, or monthly. To illustrate this, consider the chart below:
Observing the above ETHUSDT chart, a resistance level was formed around $4,050 and $4,150. Price reacted between these price points multiple times before moving in a specified direction (bearish).
Support Level Using Line Chart
A support level is an area where selling pressure is exhausted, allowing buyers to prevent further down movement of price. Ideally, huge buy pending orders is placed around key support areas, which in some cases result in price rejecting (bouncing off) the support level, resulting in a trend reversal (bearish to bullish).
It's important to note that the strength of a given support level is dependent on the time frame used, support level identified within short trading time frames like 5 Minutes, 15 Minutes, 30 Minutes, is relatively ineffective when compared to support levels identified on higher trading timeframe like Daily, weekly, or monthly. To illustrate this, consider the chart below:
Observing the above ETHUSDT chart, a support level was formed around $3,900 and $4,000. Price reacted between these price points multiple times and rejected the level before moving in a specified direction (bullish).
Question 3
Differentiate between line charts and Candlestick charts. ( Demonstrate with screenshots)
Difference Between Line Chart and Candlestick Chart
Both Line chart and candlestick chart serve the same purpose of representing price graphically, but there is some notable difference between them, some of which includes:
1- Data Representation
Line Chart
Line chart represents price movement with a single oscillating line which is plotted with only the closing price of the asset at a given interval. This makes this type of price representation very minimal and easy to understand.
Candlestick Chart
The candlestick chart represents price movement with elements called candles, which is plotted using sensitive price data like the opening price, closing price, highest price, and the lowest price of the asset within a specified period. This type of representation conveys more information about the price within a specified period.
2- Trend Identification
Line Chart
The line chart utilizes its single oscillating line to highlight the directional bias of price movement. This reduces the ambiguity and noise of using multiple price data thus, giving a clear indication of possible price movement.
Candlestick Chart
The candlestick chart utilizes candlesticks (bearish and bullish) to identify the directional bias of price movement. This sometimes brings about ambiguous data representation of price which reduces the ability of a trader to predict the possibility of trade setup correctly.
3- Identifying Support and Resistance Levels
Line Chart
The line chart makes it easy to identify key support and resistance level. This is because of how data is represented on the chart, allowing easy identification of key swing points.
Candlestick Chart
The candlestick chart can be used to identify resistance and support levels. Though using a candlestick chart is a bit different because of how price data is represented, traders would consider many factors when drawing resistance and support level on the chart, for instance, the wicks of candlesticks should also be considered when identifying areas of resistance or support.
Question 4
Explain the other Suitable indicators that can be used with Line charts. (Demonstrate with screenshots)
RSI and Line Chart
The RSI is an indicator that indicates the condition of a given market in terms of overbought, oversold, or balanced market. This is done with the RSI levels of 30 and 70. Ideally, when price moves below the 30 RSI level, it's considered that the market is in an oversold state and a bullish reversal should be anticipated. While a move above the 70 RSI level indicates that the market is in an overbought state and a bearish reversal should be anticipated.
Though like every other indicator, the RSI is not 100% efficient, so it's advised to always use multiple confirmations before concluding on a directional bias.
The RSI can be paired with the line chart to confirm a directional bias of a given trade order. To do this, the RSI has to indicate if the make state is overbought or oversold, then wait from price to break above a resistance level in the case of an oversold market, which confirms the presence of buyers to push price upwards, and a break below a support level in the case of an overbought market, which confirms the presence of sellers to further push the price down.
Observing the chart above, the RSI indicated oversold and overbought conditions. The bias was further confirmed with the break above resistance and support respectively, as seen above, the expected trend reversal played out. As previously mentioned, the RSI is not 100% efficient, so it's advised to always use multiple confirmations before concluding on a directional bias.
Question 5
Prove your Understanding of Bullish and Bearish Trading opportunities using Line charts. (Demonstrate with screenshots)
Trading Opportunities Using Line Chart
Identifying trading opportunities using a line chart all depends on the trader's ability to identify trends and combine multiple indications to build confluence. Though using a line chart makes it easy for traders to identify trends, it works best with other indicators to identify worthy trading opportunities. To illustrate this, I will combine a line chart with the moving average crossing (20 and 50 SMA).
The moving average crossing is a trading strategy that utilizes two simple moving averages with different period settings, where an MA with a smaller period (20) setting cross above the MA with a higher period (50) setting is considered a bullish signal. Similarly, when the MA with a higher period (50) setting crosses above MA with a smaller period (20) setting, it's considered a sell signal.
To combine the line chart with the moving average crossing strategy, the trick is to wait from price movement (line chart)to cross above or below the MAs, then wait for a cross to confirm the trade signal. To illustrate this, consider the scenarios below:
Bullish Scenario
In a bullish scenario, price movement (line chart) should cross above the moving averages (20 and 50 SMAs) then wait from the 20 SMA to cross above the 50 SM, which indicates the presence of buyers and their willingness to push price upwards. Consider the chart below:
Observing the chart above, the line chart broke above the two moving averages, then followed by the cross of the 20 MA above the 50 MA, which indicated the presence of buyers being in control of price. The trade was executed after the cross of the moving averages, stop loss was placed below the previous low, and take profit was placed to target previous structure highs. The risk to reward on the trade is in a ratio of 1:3.
Bearish Scenario
In a bearish scenario, price movement (line chart) should cross below the moving averages (20 and 50 SMAs) then wait from the 50 SMA to cross above the 20 SM, which indicates the presence of sellers and their willingness to push the price downwards. Consider the chart below:
Observing the chart above, the line chart broke below the two moving averages, then followed by the cross of the 50 MA above the 20 MA, which indicated the presence of sellers being in control of price. The trade was executed after the cross of the moving averages, stop loss was placed above the previous high, and take profit was placed to target previous structure lows. The risk to reward on the trade is in a ratio of 1:2.5.
Question 6
Investigate the Advantages and Disadvantages of Line charts according to your Knowledge.
Using the line chart in trading has its advantages and disadvantages. They include the following:
Advantages of Line Chart
The advantages of the line chart include the following:
1- Simplified Representation
With the line chart single oscillating line, it's easy to read the chart and identify various elements of price development like the trend, trend structure, etc. This helps for easy comprehension of real-time market data which in turn helps traders earn profits after a successful forecast.
2- Identifying Swing points
Line chart makes it easy for traders to identify key swing points (resistance and support) in a market, this greatly improves the ability of traders to identify key resistance and support levels.
3- Easy to Use
With its simplified nature, a line chart is very easy to use and also easy to integrate with other indicators like RSI and moving averages. This further improves the quality of trade signals generated using the confluence. It also makes the learning process easy for new traders when studying about trends and market structure.
Disadvantages of Line Chart
The disadvantages of the line chart include the following:
1- Less Information
Due to its simplified nature, the line chart provides less information about price development which is relevant to advanced traders. This lack of in-depth information makes the line chart less favorable to use when compared to candlestick charts.
2- Trade signal
The line chart works well when combined with other indicators to determine a trade signal. This makes the line chart reliant on other indicators to generate trade signals.
3- Limited Usage
Unlike the candlestick chart, the line chart has very limited use since it only considers the closing price of an asset plotted with a single line. Various technical analysis elements candlestick patterns (engulfing, doji, pin bar), chart patterns, etc which offer more insights on price development can be barely used on line charts.
Conclusion
A line chart is a type of price representation chart that uses a single oscillating line to indicate the price movement of an asset over a specified period. The simplified representation of price using a line chart when compared to other forms of price chart representation like a bar chart, candlestick chart, makes it easy for traders to identify the market condition at any given interval, which helps improve the trader's forecasting probability, resulting in simplified profitable trading.
Thank you professor @dilchamo for this educative and insightful lesson.