Last week we examined the Gann Fan as a decision support tool for our trading and investing. This week we week will look at a way to determine where to place these fans for optimal effect. The additional benefit of this lesson is that the technique can also assist in managing trailing stops to protect profits.
Traders have their own terminology. Two such terms they often throw around are “swing high” and “swing low.” Are you aware what these terms refer to? They can be used to identify trends in progress and even warn of a pending trend change.
The classic definition of a swing low is a low on a candle or a bar chart that has a higher low on either side. A swing high is one that has a lower high on either side.
Online Trading Academy’s Core Strategy revolves around buying at strong levels of demand and selling at strong levels of supply. We identify these zones by looking for solid price movement from a basing. Very often these strong levels are swing lows and highs themselves.
Many traders will use swings as points for setting stops. When you are in a long position, you want to trail price as it moves higher so you can lock in your profits when you have them. One way to do this is to set your stop just below the most recent swing low. Prices will move up in the trend and naturally retrace before moving higher. After prices rally from a retracement, you can move your stop to the newest swing low when prices move up to a new high in the trend. You can repeat this process until you are either stopped out or reach your target. If a swing low is broken, then the definition of an uptrend (higher highs with higher lows) has been broken and you should not be in a long position anyway.
The same technique can be used to protect against giving up profits in a short position. You would set your stop above the recent swing high. With the same methodology, you would only tighten your stop to a lower swing low once price has made new lows in the downtrend. If the swing high is violated, you have made a higher high and your trend is now over.
In Gann Analysis, the identification of the swing highs and lows are important because the fans are supposed to be placed at those swing points. The calculation of the swings is a bit different. A swing low is where price made a low and was preceded by two higher lows. To confirm the low as a swing low, there must be two higher lows immediately following as well.
The identification of a swing high is similar. It is a high that was preceded by two lower highs and is immediately followed by two lower highs. This can apply to any time frame and to any security but all five candles involved must be adjacent.
The Gann Fans will work much better when extended from these swing points. As always, you need to remember that these tools are only to support your decisions. You should only trade at strong supply and demand zones as outlined in Online Trading Academy’s Core Strategy. If you do not know the strategy yet, be sure to visit your local center to learn more.