Whether you trade forex or stake your interest in the stock market, It is pertinent to make appropriate trading decisions to remain profitable. Besides a good trading platform, a set of valuable indicators are crucial for your success. Undoubtedly, indicators help you read a trading chart and understand if the market ranges or follows a trend. Technical indicators also assist clients in identifying when an asset is overbought, oversold or due for a reversal. In this piece, we discuss one of the popular technical indicators (KDJ) indicator in detail.
What Is KDJ Indicator?
KDJ is a technical indicator that helps traders to forecast stock trends and changes in their price patterns. It is sometimes also referred to as a random index. Mostly, traders use it to perform short term trend analysis. Besides assisting you to identify trend direction, it also helps you find optimal entry points.
Image Source: https://www.mql5.com
Besides comprising three lines K, D, and J, the KDJ indicator has two price levels: the highest and the lowest. For period calculation, the indicator incorporates both price levels besides accounting for the amplitude of fluctuations in the prices. Hence the indicator is believed to reflect price fluctuations reasonably well. In the KDJ index, the fastest index is K in yellow, the slowest is D in blue, and J is the medium index with a red line.
KDJ index values range between 0-100 for K and D, while the value for J can be less than 0 or more than 100. However, the software incorporates KDJ values between 0 and 100 for research and analysis.
The value for J is more sensitive than K, with D being the least sensitive. On the other hand, D possesses more stability while K and J values rank at 1 and 2, indicating the latter being less stable.
With the KDJ indicator, investors mainly try to understand the relationship between an underlying asset’s highest, lowest, and closing prices. It also employs some merits of strength indicator, momentum concept, and the moving average. Therefore, it becomes pretty easy to judge the market conditions using the KDJ indicator.
How Does It Work?
KDJ indicator is all about identifying random price fluctuations and works best for short and medium-term analysis in a trending market. However, the K-line chart also predicts the price trend pretty well in a more extended time frame. For instance, on the weekly chart, the KDJ indicator’s mid-line operation works much better.
While the K and D lines look similar to the lines used in the Stochastic Oscillator, the J-line reflects the bifurcation of the D’s value from K. When these lines converge, you can anticipate a new trading opportunity.
How to Setup the KDJ indicator?
The KDJ Indicator is a technical indicator that transforms historical data. With KDJ, traders can detect hidden patterns and peculiarities in price dynamics that a human eye could hardly see. Traders must adjust their strategy based on the information acquired from the KDJ indicator.
Given below are the simple steps to help you set up the indicator.
Download the KDJ MT4/MT5 Indicator on your PC. You can easily find it over the internet.
After installing it, sign in to the MetaTrader platform and open the data folder by clicking on the file menu.
Access the MQL4 folder and paste it into the indicators folder.
Restart the Metatrader 4/5 Client.
Choose a chart and timeframe to test the KDJ indicator.
How to trade using the KDJ indicator?
With KDJ indicators, traders mainly look for buy and sell signals. Based on the values of the KDJ indicator, there are three different zones, including oversold, overbought, and wandering zone.
When the value of KDJ decreases below 20, they fall in an oversold area. Similarly, values exceeding 80 hit the overbought zone.
KDJ indicator generates a sell signal when the three lines intersect above an overbought level. In such a scenario, the blue line remains on top while the yellow line comes in the center, and the red one stays on the bottom. Similarly, a buy signal is received when all three lines coincide below an oversold level following the same sequence.
Not to mention, when the values for the KDJ indicator hover between 20 and 80, you should wait for the confirmation signal.
Levels being overbought and oversold indicate reversal points. While these levels have a default value of 80 and 20, you can tweak them for more sensitivity to get a fair indication.
Things To Consider While Trading With KDJ Indicator
It is best to use the KDJ indicator with other indicators, such as the Average True Range (ATR) and Average Directional Index (ADX).
The Average Directional Index (ADX) indicates a possible trend reversal. Since KDJ is less likely to work under extremely volatile markets, ATR can help you determine the market’s volatility with some reasonable assurance.
Remember, indicators can only help you find a possible value and don’t offer 100 percent confirmation. Therefore, it is crucial to employ an appropriate capital injection followed by advanced risk management tools.
Pros and Cons of KDJ Indicator
Like other indicators, KDJ also has some pros and cons that are listed below.
Pros
KDJ indicator is simple to understand and easy to interpret
It works best when used with other indicators, such as Stochastic Oscillators.
It is ideal for identifying changes in price trends and finding optimal entry points.
Cons
KDJ indicator doesn’t work in a highly volatile market.
It sometimes offers misleading information.
Conclusion
Undoubtedly, the KDJ indicator is pretty helpful to determine price trends and identify entry points. However, the indicator can sometimes lead to false information like other technical indicators; hence shouldn’t be relied upon in absolute terms. It is better to use it with other technical indicators to form a more reasonable trading decision.
What is Gravestone Doji and How to Trade using this Reversal Candle Pattern?
Candlestick patterns hold critical importance in technical analysis, and understanding them well is crucial. While there are more than 30 candlestick patterns, Doji candlestick patterns are known to be used more frequently. However, traders usually struggle to employ them effectively either due to lack of knowledge or misinterpretation. In this guide, we’ll discuss one of the popular candlestick patterns – Gravestone Doji. Besides helping you know how it works, we’ll also explain how to interpret it. In the last section, we’ll also discuss some limitations of the Gravestone Doji pattern.
What Is Gravestone Doji?
Gravestone Doji is a bearish pattern that indicates a price reversal and a subsequent downtrend. It alerts traders to book a profit on the bullish positions before the trend turns bearish. The pattern forms when the underlying asset’s opening and closing price becomes equal. It has a long shadow on the upper side that indicates sellers resisted the day’s buying pressure and that supply and demand are in equilibrium.
What does a Gravestone Doji indicate?
A Gravestone Doji pattern indicates the bearish reversal. The pattern does not necessarily need opening, closing, or low prices to be the same for its validation. However, Gravestone Doji’s small tail help traders not to confuse it with other patterns like the inverted hammer, spinning top, or shooting star. The market portrays that the bulls push the prices to go higher, while bears keep pulling the prices back to the origin.
Gravestone Doji’s upper long shadow implies the bulls are becoming weak. Not to mention, the Gravestone Doji can appear near a downtrend end, but it is more common in an uptrend. Despite being famous, the Gravestone Doji comes with reliability concerns as is common with other visual patterns as well. Traders often ignore Gravestone Dojis until the confirmation candle shows up and signals a reversal.
Gravestone Doji examples
Gravestone Doji can appear in both uptrend or downtrend. Let us explain either case using a simple example.
Gravestone Doji in Uptrend
Gravestone Doji is more likely to be formed in an Uptrend top. When it appears in an uptrend, it is considered unfavourable for the bullish market. That’s because it suggests the bulls are becoming weaker, and the bears are likely to come into play who will start pulling the price downward. Ideally, when a Gravestone Doji appears at the top of an uptrend, you should get ready to exit a trade before it is too late and the bears take control.
Gravestone Doji in Downtrend
Whether a Gravestone Doji appears in an uptrend or downtrend, it is always a bearish candlestick pattern. Therefore, you must not get confused. The appearance of a Gravestone Doji in a downtrend suggests that a trend might continue or move sideways and market range. Remember, a Gravestone Doji in a downtrend shouldn’t be considered a bottom confirmation since the market may continue descending further.
Trading the Gravestone Doji
How to trade Gravestone Doji?
Always consider trading Gravestone Doji for some confluent reasons. Although candlestick analysis is a powerful tool for effective trading, it works best when combined with other indicators, such as Fibonacci levels, moving averages, horizontal support and resistance, momentum analysis with RSI, MACD, and CMF, etc.
After identifying a Gravestone Doji, wait for the confirmation candle and the low of Gravestone Doji to break down. The simple method to trade Gravestone Doji is to enter a short-term position. Remember, you should initiate a trade only when the low of Gravestone Doji breaks since if it keeps holding there, the market might start rising further.
Managing risk while trading with Gravestone Doji
Do not forget to place a stop loss while entering a position based on Gravestone Doji. It will help you limit your loss if the market moves against you. It is best to place a stop loss a little higher than the shadow of the Gravestone Doji. Not to mention, your risk levels may vary depending upon the wick size of the Gravestone Doji. It could either be too small or too large for you to be comfortable.
Essentially, placing a tight stop-loss could get caught by stop hunters, while a stop-loss set too far brings more risk. Therefore, you can use volume profiling to identify the appropriate stop-loss point.
Setting up target profits while trading with Gravestone Doji
While appropriate timing holds critical importance for trade placement, you are less likely to be profitable if you miss an exit plan for your positions.
When trading with Gravestone Doji, it is best to use the candle wick to exit a position. Your first target profit should be equal to the size of the Gravestone Doji candle, while you can have it double the size of the candle for the second take profit.
Drawing Fibonacci levels to match the appropriate potential spot or incorporating support and resistance levels can also help. Moreover, you can employ other methods like TD sequential or Elliott wave and use their exit points in conjunction with the Gravestone Doji to have the best results.
Setting up a Stop loss on Continuing Trades
There could be a scenario where the market seems to be moving well in your favour, and you wish to switch from scalping to a long-term position. In such a case, you need to recalculate your stop level and place it a little lower or higher than your current stop level so you can avoid losing profits. However, modifying a stop-loss in continuing trade is not recommended. It can have serious consequences in highly volatile markets like cryptocurrency. If you are new to trading, it’s better not to think about it.
Difference between Gravestone Doji & Dragonfly Doji
Dragonfly Doji is the inverse of Gravestone Doji. Despite their differences, they have a common mechanism. An almost-identical closing, opening, or high of a trading session creates a Doji. While Gravestone Doji looks like an inverted T, the Dragonfly Dogi looks similar to a “T.”
Both can be bullish or bearish, but they can also be the opposite. A bullish dragonfly can precede an upswing, whereas a Gravestone Doji can precede a downturn. Both patterns necessitate volume and a second candle. Instead of pure bearish or bullish signals, you should consider both formations as visually uncertain representations.
Double Gravestone Doji
The appearance of a double Gravestone Doji indicates that bulls are significantly weak, and the market is turning bearish. After a low of two Gravestone Doji breaks, the market descends abruptly. However, instead of entirely depending on the Gravestone Doji, you should consider using other indicators such as RSI, MACD, Bollinger bands, Fibonacci levels, and Moving Averages, etc., in conjunction with the Double Gravestone Doji. It will help you decide more precisely whether to exit a trade in anticipation of a bearish market ahead or wait for bulls to retreat. Not to mention, the significance of the confirmation candle can’t be overlooked either.
Characteristics of the Gravestone Doji
Gravestone Doji pattern is one of four Doji candlestick patterns, including Common Doji, Gravestone Doji, Dragonfly Doji, and Long-Legged Doji. Being visually different to other candlestick patterns, it is easily identifiable.
Gravestone Doji’s most distinguishing characteristic is the long upper and lower wick with a tiny candle’s body that looks representing the open and closing prices being almost the same.
When a Gravestone Doji appears at the end of a strong uptrend, it becomes compelling. Generally, you may notice intense price action bursts pushing the price of underlying security into the uptrend. These uptrends are likely to have no pullbacks.
The Gravestone Doji suggests a temporary pause or even a possible reversal if such a trend appears. Undoubtedly, the emergence of a Gravestone Doji near a rally’s top-end or close to a resistance level makes it more viable. Not to mention, the Gravestone Doji can appear in either case.
Significance of Gravestone Doji’s Location
Remember, the location of the formation of Gravestone Doji is critically essential. A Gravestone Doji appearing on a dominant resistance level is far more significant than the pattern emerging on the chart anywhere else. Therefore you should avoid trading Gravestone Doji unless it appears in the position mentioned above. For instance, amongst the two Gravestone Doji appearing in the image shared below, the 2nd Gravestone Doji holds more significance since it forms on precise resistance levels. On the other hand, the Gravestone Doji appearing in the middle of the chart doesn’t make any sense. Hence, if you had to place a sell trade, you would have certainly put it near the second Gravestone Doji.
How to Trade Gravestone Doji In a Range Market?
Since possible selling pressure comes around a resistance level, you should short your position. That’s because the market signals the rejection of higher prices and indicates a lower reversal, just like shown in the image below.
How to Trade Gravestone Doji In a Trending Market?
The market usually bounces off in a healthy or strong trending market. Therefore, you should consider going short when the price of an underlying asset pulls back towards the Moving Average forming a Gravestone Doji, as you can see in the attached image.
Gravestone Doji – Limitations
Gravestone Doji candlestick in an uptrend may signal the end of a bullish phase and the beginning of bearish forces. It can help traders to plan for getting out of trades with profit. However, it doesn’t necessarily mean that a trend has changed. Traders must wait for the next candle to form before making a move. It can easily represent market indecision, and then the market can rise. The Gravestone Doji works best when combined with other technical indicators.
Pros and Cons of Gravestone Doji
Given below are some pros and cons of employing Gravestone Doji;
Pros
Gravestone Doji is easily identifiable.
It is one of the powerful bearish reversal candlestick patterns.
Traders can use it in conjunction with other indicators.
Cons
It can form a mid-trend becoming least helpful.
It usually does not appear in high time frames.
It shows the market fluctuations and could continue the trend or gets a reversal.
Key TakeAways
Let’s review how you can identify and trade the Gravestone Doji using quick bullet points:
1) An upward trending Gravestone Doji pattern usually occurs at the bullish trend’s peak.
2) The bulls drive the security to an indefensible level, that the bears take control. Traders say this pattern resembles a bull gravestone’s side profile.
3) You should sell the stock after a candle gets closed below the Gravestone Doji’s tiny body.
4) Never trade gravestone Doji without a stop loss. Also, it would be better to place the stop-loss above a candlestick’s peak.
5) When trading the Gravestone Doji, you have 02 profit targets. For larger Gravestone Doji candles, allow the price to become equal to the formation size. Secondly, targeting profits twice the Gravestone Doji’s size works better with a smaller Doji candle.
6) If the market continues to trend in your favour, be patient. Set your stop beyond the target. Keep trading until two bullish candles appear. This suggests the bearish move is over.
Conclusion
Undoubtedly, Doji candlesticks are the most common reversal patterns, and the Gravestone Doji is one of their variations. When identified and confirmed appropriately, Gravestone Doji can lead traders to explore profitable opportunities. However, as with any other strategy or pattern, it takes time to master it. It is best to practice it well using a simulator before staking your funds in a live market. Follow the guide and test your trading skills with Gravestone Doji as many times as you can. Once you have become confident to go live, the market is yours.
Gravestone Doji doesn’t reflect profitable opportunities always. Despite indicating a price trend reversal reasonably well, it still needs to be used carefully. Remember, do not make conclusive decisions based on Gravestone Doji alone. Instead, it is best to use it in conjunction with other tools and indicators. There are plenty of tools available to help you make your way to profitable trading. Since now you’ve become familiar with Gravestone Doji, identifying it and placing trades shouldn’t be a problem for you. However, we understand that trading knowledge is not always the major constraint for most traders. Instead, It could be financial stress that stops you from achieving your goals. If that’s the case, you don’t need to be worried. At Traders Central, we do have the funding solution for serious traders. Besides an instant funding facility, we offer flexible payment plans with one time fee subscriptions. Not to mention, we do allow leverage trading as well.
Traders have been using candlestick charts for ages. For the first time in the 17th century, A Japanese merchant called Homma observed that while there is a relationship between price, supply and demand of a commodity, dealers’ emotions usually dominate the market. Candlestick patterns help traders to anticipate price movement based on historical trends. This piece will discuss one of the most effective candlestick patterns called Morning Star in detail.
What Is Morning Star?
A morning star is a three candlesticks pattern usually perceived as an early indication of a bullish trend. A morning star occurs downward, signaling the start of an uptrend. In simple terms, you may anticipate a price trend reversal when you see a morning star. Traders confirm the trend reversal after spotting a morning star using other indications.
Characteristics of Morning Star
For optimal accuracy, the reversal pattern of the morning star should emerge at a critical support level or near the bottom of a downtrend. To illustrate this point, consider how the financial market swings in a zigzag fashion.
Reversal of a swing level indicates the end of the current trend and the beginning of a new one. The formation of the morning star follows the same logic.
Buyers actively speculate on the price on Day 1 for this pattern. After a downward gap on Day 1, aggressive sellers become active. The sellers narrowly make a new low, indicating a loss of momentum at the end of the day. That is the crucial morning star pattern indicator. After two days of bearish market activity, a powerful bullish candle develops on day three.
The above graphic depicts the morning star formation on a pricing chart. The third day begins with a bullish outlook and ends above the second day’s close. The pattern’s shared features include:
When a morning star pattern appears on a downtrend’s bottom, it’s a bullish morning star.
Morning Star formation near a solid support level is more likely to function.
The pattern is more robust if the third day’s candle is more significant than the first day.
The second day should have a bearish gap, whereas the third day should have a bullish gap.
What Does A Morning Star Tell You?
Since a morning star is simply a visual pattern, no computations are required. The morning star has a low point on the second candle that becomes visible after the third candle closes. Technical indicators like the relative strength indicator (RSI) suggesting an oversold stock or price action reaching a support zone might help analysts forecast the formation of a morning star.
The chart above is in black & white, although red and green are more popular candlestick colors. However, the morning star’s central candle holds more significance since it can be black or white. Sometimes, it could also appear red or green as the session progresses and the buyers and sellers level out.
Morning Star Example
Traders may use the morning star pattern to visually signal a trend change from bearish to bullish but with other technical indicators backing it up as well. Not to mention, pattern creation is also affected by volume.
On the third day, traders want to see volume increase steadily. Regardless of other signs, candle printing’s significant volume on the third day confirms a pattern (and an uptrend). Traders will likely take on a bullish position when the morning star pattern develops on the third day and hold them until an anticipated reversal.
Doji Morning Star VS the Morning Star
The formation of morning star patterns may sometimes vary. A Doji appears when a candlestick exhibits a flat middle price movement. It’s a minor candlestick with no wicks, resembling a Plus symbol. Unlike the morning star having a thicker central candle, a Doji morning star suggests market indecision more reasonably.
Because more traders may see a morning star developing when a Doji follows a black candle, the volume spikes, and the white candle lengthens.
Morning and Evening Stars’ Dissimilarities
The morning stars and evening stars are opposite of one another. Starting with an enormous white candle and ending with a smaller black or white candle is typical. Then the black candle should be at least half the length of what came before it. It is time for bears to take over since the evening star signals an end to an upsurge in the stock market.
Limitations of Morning Star
Like other candlestick patterns, the Morning Star has a few limitations, listed below.
On a chart, the morning star comprises three candlesticks. You might miss a trade if the price reverses the trend before three days.
You can’t rest assured of mobility. Despite following all the guidelines, you may hit the stop loss.
Finding the setup on the charts takes time and patience, especially for D1 or W1 time-frames.
In turbulent markets, getting shut out at breakeven is more likely.
Conclusion
The formation of a valid morning star indicates a bullish reversal after a long bearish trend. Although the morning star pattern is highly profitable, traders should thoroughly analyze it and practice on a trial account. Also, traders should not forget to assess the market’s risk. A market collapse or a dramatic rising or negative trend may happen quickly. Remember that even the most flawless candlestick formation cannot forecast the future. Always corroborate chart patterns using trade volume, other technical indicators like the RSI (Relative Strength Index), and a few more.
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Technical indicators help investors to understand market psychology besides demand and supply mechanisms. These indications together form a base for performing in-depth technical analysis. While metrics such as trading volume indicate a price trend’s continuation, indicators generate buying and selling signals. Technical traders and chartists use several indicators, patterns, and oscillators while trading multiple financial markets, including stock, forex, indices, and cryptocurrencies. DMI is also a popular technical indicator used to determine the direction and strength of a price trend. In this piece, we discuss DMI in detail.
What Is DMI Indicator?
Directional Movement Index (DMI) is a technical indicator that helps users determine the asset’s price direction. Founded in 1978 by J. Welles, the technical indicator compares previous lows and highs by drawing positive and negative directional movement lines. Traders sometimes also use the average directional line (ADX) as a third option along with these lines to measure the uptrend or downtrend’s strength.
When +DI exceeds -DI, the price is under more substantial upward pressure. On the other hand, If -DI exceeds +DI, the price is under additional downward pressure. Traders may use this indicator to gauge the trend. Traders might also use lines crossovers as buy/sell signals.
How to Calculate Directional Movement Index (DMI)
Directional Movement (DM) is the most considerable portion of the current period’s price range that sits outside the prior period’s price range. Calculate the DMI for each period.
Where
Positive DMI is equal to High – Previous High
Negative DMI is equal to Previous Low – Low
Reset the smaller of the two numbers to zero, i.e., if +DM is greater than -DM, then -DM = 0. On the inside bar ( a higher low and a lower high), both -DM and +DM have negative numbers; hence you can set them to zero, representing no directional movement for the specific period.
Calculate the True Range (TR) for each period, where:
TR = Maximum of (High – Low) x (High -PreviousClose ) x ( PreviousClose – Low )
Aggregate the -DM, +DM, and TR individually and smooth out using a proprietary smoothing approach developed by Wilder. For smoothing of n period, add 1/n of each period’s value to the total of each period, just like an exponential smoothing.
+DMt is equal to [+DMt-1 – (+DMt-1 / n)] + (+DMt)
-DMt is equal to [-DMt-1 – (-DMt-1 / n)] + (-DMt) (-DMt)
TRt is equal to [TRt-1 – (TRt-1 / n)] + (TRt) (TRt)
Then, calculate negative DI and positive DI as a True Range Percentage as shown below:
+DM/TR x 100
-DM/TR x 100
What Does the DMI Indicator Tell You?
Investors use Directional Movement Index (DMI) to analyze trend direction. Trading signals are crossovers. An uptrend may be underway when the positive DI crosses above the negative DI. On the other hand, a sell signal is generated when the positive DI crosses below the negative DI. When a downturn is underway, traders might initiate a short-term trade.
Traders may also use the indicator for trade or trend confirmation. In this case, the +DI is substantially above -DI, confirming existing long trades or fresh long-term trade indications concerning other entry approaches. If -DI is substantially above +DI, a severe downtrend or short-term positions are confirmed.
How To Read the Directional Movement Index (DMI)?
The DMI is positive when the current price – the previous high exceeds the current low – the previous high. So, if it’s positive, this index is the current high – the previous high.
The reverse is the negative DMI. In this case, the previous low – the current low is greater.
It’s helpful to know the DMI’s theoretical underpinnings. However, that’s not a compulsion anyway. You only need to understand how to employ the indicator when required.
You may notice that the DMI features three lines of varying colors. You may modify the colors to fit your trading style. The yellow-colored ADX line is the most crucial line in the chart above. It tells you what’s going on.
ADX value above 25 indicates a strong trend, whereas ADX having a value below 25 or below suggests there is no significant trend. Likewise, the Redline shows negative DM, while the blue line represents the positive DMI.
How to Use the DMI Indicator?
Traders can find the DMI indicator in toolkits of popular trading platforms, such as MetaTrader & PPRo8. After applying it to a price chart, traders may see three indicator lines: average directional index line, positive DI line, and negative DI line.
The indicator is most often used to gauge a trend’s strength. As a result, it can only be employed in a trending market.
The ADX number is the most typical interpretation. A value above 25 typically indicates a significant trend. Wilder suggested that an ADX of 20 or less indicates no substantial direction.
However, you can always customize these numbers. We know traders that utilized 30 to demonstrate a trend. The chart below is an excellent illustration.
Ensure the chart is going upwards or downwards before using the indicator. This is vital since it won’t work if the underlying asset price fluctuates.
Image Source: TradingView
Please note that the Directional Movement Index (DMI) may not always be correct. Traders should use it in conjunction with other trends, oscillators, and volume indicators. Use methods like candlestick pattern and Fibonacci retracement analysis.
How can Directional Movement Index (DMI) Help Traders Make Profits?
Let’s explore how to evaluate the DMI indicator in-depth and what information it may offer to help you generate higher earnings.
DMI – Trendlines
DMI incorporates the range’s expansion moving average for a specific period, i-e, 14 days. The indicator measure how strongly the price rises upward (+DMI) or downward (-DMI). The two lines show the power of the bulls and bears.
Each DMI has its own line (see Figure 1). Traders first need to identify which line is on the top. Day traders call it the dominating DMI, and it is more accurate and reliable. The lines must cross for sellers and buyers to swap dominance.
A crossing happens when the dominant DMI crosses the DMI on the bottom. While crossovers seem to be a clear indication to go long or short, many short-term traders prefer to wait for additional indicators to corroborate the signals. DMI line crossovers are generally inaccurate, giving misleading alerts during low volatility and late signals during high volatility. Crossovers are the earliest sign of a possible direction shift.
Given above image shows the positive DMI and negative DMI as independent lines. You may notice some false crossings on point one. The dominating positive DMI crossover at point 2 suggests an uptrend.
DMI – Directional Signals
The DMI indicator is used to confirm price action ( Figure 2). The +DMI often moves in lockstep with the price, rising and falling with the price. Notably, the -DMI goes in the opposite direction of price. The -DMI increases when the price decreases and lowers with the price increase. It takes a while to adjust. Remember that a price move’s strength is always captured when peaked in the DMI line.
It’s simple to read directions. The price goes up when the positive DMI rises. On the other hand, when the negative DMI rises, the price starts falling down. But pricing power must also be addressed. DMI strength spans from 0 to 100. The greater the DMI, the more volatile the prices. DMI readings above 25 indicate a strong price direction, while a reading below 25 indicates price weakness.
The above figure shows a choppy DMI at Point 1. With the +DMI over 25 at Point 2, the uptrend continues. At Point 3, +DMI moves in lockstep with price, while -DMI moves in opposition near Point 4.
DMI Momentum
The ability to view both selling & buying pressure simultaneously is a nice feature of DMI that allows traders to identify the dominant one before opening a position. The strength of bulls (swing highs) is mirrored in the positive DMI peak, while the negative DMI reflects the strength of bears (swing lows). The relative intensity of DMI peaks reveals price momentum and gives timely trading tips. When buyers outnumber sellers, the positive DMI rises above 25, and the negative DMI falls below 25. An upswing is visible here. When sellers outnumber buyers, the negative DMI peaks are above 25, while the positive DMI peaks are below 25. The tendency will be downward.
Price trending hinges on the dominating DMI being strong. A strong upswing will have increasing positive DMI peaks that stay above the -DMI (Figure 3). Strong downtrends are the opposite. In the absence of a dominating force, trend trades are inappropriate since both DMI lines below 25 start moving sideways. The finest trends start after lengthy durations of DMI lines crossing beneath 25. Price will break through support/resistance, and DMI will extend over 25.
In the figure, the positive DMI crosses over 25 at Point 1 and stays above the negative DMI. You may notice that negative DMI did not cross throughout the rise. The buyers ( positive DMI >25) outperform the sellers (negative DMI 25).
DMI Pivot
DMI lines pivot when the price observes directional change. DMI pivots must have a price correlation with structural pivots. The positive DMI will also have a pivot high when the price does. However, there’s an opposite case with negative DMI since its price pivots low when the negative DMI pivots high.
DMI and price pivots must correlate with interpreting price momentum. Many short-term traders monitor for price and indicator convergence or divergence. Finding fresh pivot highs and +DMI highs is one way to validate an asset’s uptrend. A new pivot low and a new high negative DMI confirm a downtrend. This is a signal to trade the trend or follow the trend breakout.
Divergence occurs when the price and DMI do not agree. For example, when the price rises but positive DMI remains intact. Divergence usually precedes a reversal or retracement and is a risk management indication.
Price and positive DMI both establish fresh highs in the figure above, signifying a long entry. In another case of divergence (Point 2), the price achieves a new high, but the positive DMI does not, resulting in a retracement of the trend at Point 3.
DMI & Volatility
The DMI lines show price volatility. A trend enters a time of consolidation, and then the consolidation undertakes a trend period. Volatility lessens as prices consolidate. Because the buying and selling pressures are about equal, buyers and sellers often agree on the asset’s worth. Once the price has narrowed, it will widen as buyers and sellers cannot agree on a price. When price breaks through the support into a downtrend or bypasses resistance into an uptrend, supply and demand are no longer balanced. Volatility rises as the price seeks a new value level.
When a contraction or expansion range appears, the slopes of the DMI lines shift in opposing ways (Figure 4). Many short-term traders search for occasions when DMI lines diverge, and volatility rises. The more lines divide, the more volatile. Contractions occur when lines move closer together, reducing volatility. Contractions precede retracements.
It’s a downturn’s part in the above figure. Point 2’s contraction causes a reversal that starts with Point 3’s expansion. Price consolidates after Point 4’s contraction.
Limitations of the DMI Indicator
The DMI is a component of the ADX. The DMI trend direction may be combined with the ADX strength measurements. An ADX reading over 20 indicates a significant trend. Whether or not ADX is used, the indicator is prone to false indications.
Notably, positive DI and negative readings and crossings are based on the previous pricing and do not guarantee future results. Unresponsive pricing to a crossing might result in a lost transaction.
A crisscrossed line produces several indications but no price trend. To prevent this, only trade in the greater trend direction by employing long-term price charts, or using ADX readings to identify strong trends.
Bottom Line
In line with trend analysis, the price of an asset rises when the pivot highs and lows are rising. The trend remains intact, and the bulls strengthen when price highs are followed by greater positive DMI higher highs. On the other hand, lower pivot highs and lows indicate a decline. When the negative DMI peaks rise, the bears are in charge, and selling pressure increases. When price and DMI agree, you may follow the trend and start managing risk while they differ.
The greatest trading choices are based on data, not emotion. Price and DMI will inform you whether to sell or hold your position. DMI may be used to measure price movement and identify low and higher volatility periods. Irrespective of a bearish or bullish market, DMI has a plethora of information that may help you benefit.
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Charts have always been an essential element for technical analysis. Traders use charts to organize data, extract meaningful information, and make effective trading decisions. Furthermore, dedicating effort to creating clean and easy-to-read charts may help you gain situational awareness and industry insight. Not to mention, colors, layout, typefaces, indicators, and overlays should all be carefully chosen while designing a chart. Today, we’ll discuss Renko Charts in detail.
What Is Renko Chart?
Renko is a type of chart that helps traders filter out small price movements and focus on more significant trends. Renko bricks create these charts after a price moves by a specific value. When a price of an underlying security rises, Renko bricks turn green while they turn red if the price falls. Hence, it becomes easy for traders to determine the price direction. Renko charts are known to be extremely useful in trading trends.
History of Renko Charts
Rice traders created brick charts hundreds of years ago. Instead of recording each price change, the merchants devised a technique to record only significant adjustments. Wisely, they saved time and resources.
The Japanese term Renko means both “brick” and “calm road”. A seamless model price change model with no sudden small movements is the essence of these charts. Traders were creating Renko charts manually on paper. Thanks to modern computing technologies that help traders create them automatically or with minimum manual input requirement.
Renko appeared for the first time in Steve Nison’s book titled “Beyond Candlesticks”. The financial expert detailed the fundamental Renko methods that many traders still utilize while trading Forex.
How Does Renko Chart Work?
Renko charts comprise bricks that move up or down at a 45-degree angle. While the bricks never face each other, traders select the chart’s brick size, and the time for new bricks is determined consequently.
Let’s examine the chart below for the Euro 50 Index to make it more simple to understand. A 35-brick size signifies that the price must move 35 points from the previous brick’s closing price to build new brick in the following direction. Since bricks cannot form next to each other, the price must move 70 points opposite to make a brick. The bricks in this example only emphasize 35-point advances. Notably, price moves of less than 35 points do not form new blocks.
The chart’s timescale is set as D1. So fresh new bricks for the Renko chart will only develop based on the day’s closing price. The price must drop 35 pips below the preceding red brick’s bottom to form another red brick. Because this is a daily time frame, the price might drop 50 points below that level, but no new brick is drawn if it closes fewer than 35 pips beneath the previous red brick.
Traders can change the timescale to anything from a second to a month. Choosing a minute chart means bricks are formed based on the minute’s closing price. Renko charts display price data for currencies, commodities, stocks, indexes, ETFs, and Treasury bills.
Develop an understanding of Renko Charts
Since Renko charts exclude minor price changes, they can effectively identify trends, and even traders can use them as a trailing stop-loss.
For example, the chart above indicates a prolonged upswing from mid-May to early June. Not to mention, the Renko chart never reversed. A trader maintaining this position might have made 385 points (11 x 35) before the appearance of the first red brick, signaling an exit as the downturn had begun.
Then came a prolonged fall in October, possibly signaling traders to short holdings and avoid purchasing. Also, traders who held long positions through green bricks saw steady returns.
But there is a downside as well. Between June and October, the Renko chart looks a bit messy. Trying to purchase or sell based on color or direction changes within this period could end up traders in frustration and financial loss. Therefore, it is always best to use Renko charts in conjunction with price action research and other trading systems rather than employing them individually.
A little about Renko Bars
Renko bricks are sometimes also known as bars or blocks. The name bar stems from bar charts, representing a period like a candlestick chart.
For instance, each bar represents 50 pips in the EUR/USD currency pair, as shown in the example below. We’ve also marked indicators of turbulence and trend reversals.
Comparison of Renko Charts with Other Indicators & Charts
Heikin Ashi Charts VS Renko Charts
Heikin Ashi chart averages recent price moves, whereas the Renko chart emphasizes the overall trend. This candlestick chart uses preceding candle values to provide a smoother average price than standard candlesticks.
The screenshot below displays the differences between them. While the left $1.50 Renko brick illustrates price activity for five months, the Heikin-Ashi chart presents price actions for crude oil for five months.
Candlestick Charts VS Renko Charts
Unlike Renko charts, Candlestick charts concentrate on timing and price information. A new candlestick develops after each specific interval, regardless of the price movement. Assuming at least one transaction in a trading day, a candle forms reflecting the day’s high, low, close, and open prices, as seen below.
On the other hand, Renko charts do not construct a new brick showing the daily high, low, closing, and opening points after every time lapse. Instead, it only produces a new brick after meeting the minimum movement threshold.
Given below are two cotton contracts shown in the graph. The chart on the left utilizes 1.00 Renko bricks, while the one on the right uses daily candlesticks.
How to trade using Renko Charts
Since clients can employ Renko Charts in different trading strategies, let’s go through a few of them below.
Charting Patterns
Renko chart patterns are comparable to candlestick chart patterns due to similar heads, shoulders, rounded tops/bottoms, triangles, etc. Unlike a candlestick chart, a Renko chart has fewer price changes, making such patterns simpler to notice. You can use different chart pattern scanners to recognize these chart patterns conveniently.
Renko trailing stops
Renko charts can assist traders in riding out a trend until a significant reversal occurs. Long-term trends can result in big gains.
Resistance & Supports
Renko charts assist traders in spotting resistance and support levels that a candlestick or bar chart may not show. A strong resistance level or support zone is indicated by Renko charts turning lower or higher. Traders might take short bets around resistance or purchase near support. In this region, keeping an eye on breakouts in the Renko charts might signal the beginning of a new trend.
Scalping using Renko Charts
A scalping strategy seeks to benefit from minor price swings multiple times a day. Renko charts can show broad trend direction, but they may not always be accurate because the bricks don’t refresh like candlesticks. Hence, using Renko charts for scalping might not be optimal for this method.
However, scalpers might arrange Renko bricks to develop in 30-minute increments or less. However, to emphasize tiny trends and reversals appropriate for scalping, traders can use the Renko charts.
Swing Trading Using Renko Charts
Renko charts can assist swing traders in capturing trends and holding positions until a significant reversal occurs. For example, while the price rises, the Renko chart creates green bricks until a specific size reversal. That’s how swing traders can predict the size of the price reversal. When it happens, they might choose to exit their long positions.
Indicators such as Renko or candlestick charts might operate as trading triggers. Swing traders can also take short positions when the price is stalled at resistance and hold them until the price declines to support or the Renko chart reverses. Not to mention, a comparative approach would be to go long near support.
Renko Chart Limitations
Due to their lack of emphasis on time, Renko charts lack detail. A stock that has ranged for a long time might produce a single box, not telling the entire story. Renko charts may help some traders in such a scenario, but others are likely to suffer.
Renko charts often ignore highs or lows and consider closing prices only. Hence, it omits a lot of pricing data because prices for highs/lows could differ significantly. Although closing prices help traders reduce noise, it can dramatically reduce the price before a new box emerges and warns the trader. By then, avoiding a loss might become too late. Therefore, traders employing Renko charts commonly use stop loss to predetermined levels rather than relying on Renko signals only.
In Renko Charts, sometimes a whipsaw effect occurs, leading to false information, especially when the bricks start changing colors too early due to the chart’s design. That’s why it’s best to use Renko charts as a confluence along with other technical indicators/confirmation signals for the trade setups based on your trading plan.
How to set up Renko Charts on MT4?
MetaTrader 4 (MT4) platform doesn’t come with a built-in feature of Renko Charts. However, customers may download it as third-party tools and indicators. There are multiple Renko chart indicators in MT4’s “CodeBase” tab. You may choose to display the Renko chart as an indication downside of the charting area.
Trading on MT4 with third-party software is risky since the writer’s market knowledge, and coding competence needs to be factored in. It is better to download it from the community website www.mql4.com. (For mt5 check out, www.mql5.com)Furthermore, Renko chart indicators also come with unique setup requirements.
Pros and Cons of Renko Charts
If you employ Renko charts instead of typical bars, you are likely to find them incredibly useful for price analysis. But these charts also have a few demerits of using them. Let’s have a quick look at both pros and cons of Renko Charts below.
Pros
1. It becomes pretty easy to determine the market’s trend and trade routes using Renko charts.
2. Renko charts are easy to interpret since the change in color of a chart brick indicates sell or buy.
3. Renko chars are ideal for trading resistance and support regions (including breakouts).
4. Renko charts deliver more vital trading indications than Japanese candlestick charts without evaluating volumes.
5. Renko charts come with easy recognition of visual patterns and generate quality signals.
Cons
1. Smoothing reduces both market noise and helpful volatility. As a result, trading only bricks causes issues with leading signal interpretation.
2. The bricks indicate lagging patterns. Each time the latency varies. It is evident during consolidation.
3. It is not feasible to employ indicators directly linked to trade volume and time scale.
Conclusion
Losing trades is part of a trader’s life irrespective of the strategy or chart type. However, traders can always control the risk exposure and how much money they are willing to lose on failing trades. Therefore, adding a stop loss to your trades will be of tremendous significance in managing your risk.
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Frequently Asked Questions – (FAQs)
What time scale works best for the Renko chart?
There is no specific time for incorporating Renko charts. Instead, you can use them on any time scale. However, short periods benefit the most from these tools since the market noise is typically higher than daily or weekly time frames.
How to calculate Renko Chart?
New bricks emerge when the price moves by more than the size of a brick, as set by the trader or the ATR indicator connected. The chart’s susceptibility to market noise varies depending on brick size.
What are the best indicators that investors should use in conjunction with the Renko indicator?
Renko bricks work nicely with all price movement indicators that ignore trade volume, including Bollinger Bands, RSI, MACD, etc.
How to pick the size of a Renko box?
The appropriate brick size is chosen manually or using ATR based on the asset’s current value. In the latter situation, the market volatility determines the size of a Renko box.
How can I trade Renko charts successfully?
Trend techniques work best when paired with additional indicators and chart pattern analysis. Clients usually trade Renko charts with Japanese candlesticks, called Heiken Ashi.
How does Renko bar work?
The bricks indicate the change in price without volatility. That’s how spotting the pattern becomes much more manageable. Since the bricks are not time-restricted, one brick might be drawn for minutes or days, depending on its size and market activity.
Where can I find the Renko chart in MT4?
Unfortunately, the Renko indicator isn’t a default feature in MT4. But you can get it from third-party resources. You can also find upgraded indicators that indicate bricks as transparent rectangles or even colorful lines.
