Most people think that to be truly successful in trading or investing in the markets you must have some deep understanding of finance, economics, or even technical analysis. They believe that there has to be some super complex strategy that the brokerages use to make money. The answer is in fact the opposite. Traders and investors who use simple strategies are the ones who are the most successful.
First, do not think that you can trade exactly like the professional brokerages, you can’t. They have one huge advantage over you, order flow. As a former trader for a retail brokerage, I was able to see all of the orders flooding in from our customers and judge the buying or selling pressure that would move the prices up or down. But do not despair. Individuals can also judge the same pressures on price and make informed decisions that will allow us to compete on nearly level footing with the big players in the markets. Traders often overlook a simple, effective trading technique when reading charts. We are all too quick to look at the squiggly lines we call indicators and oscillators and dismiss the simplest signal available to us, PRICE!
The most common way that price is displayed for most traders is through candle charts. If you are not familiar with the construction of a candlestick, I have included the quick reference below. A green candle usually indicates strength in price and is formed by price closing higher than it opened during that particular period. Conversely, the red candle indicates weakness due to the closing price being lower than the open for that period. The colored portion of the candle is called the body. This is true for both red and green candles. The lines sticking out of the body on both top and/or bottom are referred to as tails, wicks, or shadows. Those terms are interchangeable.
The problem is that many traders end their candle analysis at the color of the candle. They believe all green candles are bullish and all red are bearish. This is not enough analysis. You must look to see what the tails (wicks, shadows or whatever else you wish to call them) are telling you. These tails mark the highs and lows of the period. If I asked you what the candle below signifies, you may tell me weakness since it is red.
However with further examination, you will see that there is a long tail to the downside. This means that even though the bears pushed the price lower, there was enough bullish pressure to move price higher before the close of that period. This is actually a bullish candle! Let’s see where it was in the whole trend.
A red candle actually indicated that we were ready to bounce off demand with a lot of bullish pressure. You have to listen to the tale the tails are telling you. Any candle tail that is above the real body (colored portion of candle) tells that the bulls were not able to hold price up and the bearish pressure moved prices downward. Any tail below the real body indicates buying pressure. The longer the tail is in relationship to the body of the candle, the greater the pressure is.
This becomes especially important when price is nearing a level of demand and/or supply. By seeing which force is winning (bulls or bears) we can anticipate a bounce or break of that price level and take appropriate action.
Supply and demand are economic forces that determine price. This is especially true when looking at the financial markets. We can use the same tools for reading supply and demand as the professionals do. We just have to refer to the charts instead of incoming orders from clients. Remember that price gives us clues as to the immediate direction it will go. We just have to be open to viewing it and listen to the tale of the tails!