Day traders use a wide range of strategies to take positions on stocks or assets that can generate profits during a trading day. There are numerous indicators offered by the technical analysis of stock market charts that are used by day traders to determine trading positions.
Price Action Trading is a different approach as it is not based on technical analysis but on the understanding of price movements of stocks to find entry and exit positions.
In this article, we will explore price action trading and help you understand it better.
Price Action Trading is derived from the belief that the price and its movements are the only trustworthy sources of information for day traders. Many day traders use a range of technical analysis tools like Bollinger Bands, Japanese Candlestick patterns, etc., to make trading decisions. However, price action traders focus their attention on the movements in price at the time when they are planning to trade in the stock.
For example, if a trader observes an increase in the price of a stock, then the first deduction he makes is that people are buying it.
Next, he looks at the aggressiveness with which investors are buying the said stock and analyses the bids, trading volume, velocity, offers, and other aspects. This allows him to identify trending and pullback waves and make trading decisions.
Most price action traders use tools like candlesticks, breakouts, and trends while leveraging support and resistance theories to create trading strategies. Here are some common price action strategies to consider:
Many traders look at the trends in price movements to make trading decisions. They use various techniques to track and follow trends in market prices. This also allows them to learn from experienced traders by following price action trends.
Price Action Trend Trading includes opening a ‘buy’ position to benefit from an uptrend and a ‘sell’ position if there is a downtrend.
A pin bar pattern is a candle with a long wick. When you observe a pin bar on a chart, it is usually an indication of reversal or rejection of a specific price. The wick indicates the price range that was not accepted by investors.
Price Action Traders assume that the pin bar indicates that the price might start moving in the opposite direction and choose to decide if they want to take a short or long position.
This is a two-bar strategy where the outer bar is bigger than the inner bar. The inner bar lies between the low and high range of the outer bar. Usually, inner bars are formed when the market consolidates and can also indicate a turning point in the market.
Experienced traders identify such trends and make an informed guess about whether the inside bar represents a consolidation or a turning point.
A breakout is when the market moves outside the support or resistance levels. Most day traders assume that after a price spike (in either direction), the stock market will retract. Hence, they use such instances to take long or short positions.
Usually, markets are volatile, with a lot of ups and downs. A ‘Head and Shoulders’ pattern is when:
The market rises Falls Rises higher than before Falls again Rises to a lower high Drops modestly
This looks like a silhouette of the head and shoulders of a person. It is one of the most popular price action strategies used by day traders. Usually, traders choose an entry point after the first shoulder and set a stop-loss after the second shoulder to take advantage of the peak offered by the head.
To summarize, price action trading is a strategy that uses movements in price to estimate the potential movements in the market. Price Action Traders try to identify trends using actual prices and not moving averages (as is the case with technical analysis).
There are various price action strategies that can be deployed by new and seasoned traders to identify earning opportunities. Make sure that you practice these strategies before deploying them for making trading decisions.