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Trend Strength and Exhaustion and Trend Indicators

If you have been following us on LuckScout, you know that we trade through following the strong candlesticks patterns and their combination with Bollinger Bands.

Most of the trade setups we take are reversal trade setups. We take the continuations trade setups too, but under some special conditions and while a too strong trade setup forms on a consolidation which is formed on a strong trend (I am explaining it below).

After the candlestick pattern’s strength, and the Bollinger Bands breakout, the location where the candlestick pattern is formed is very important for us. For example, when a too strong reversal candlestick pattern forms on a too strong trend and while the trend is still too strong, we ignore the trade setup, because it is too risky to go against the trend while it is still strong. However, when a too strong reversal candlestick pattern with a strong Bollinger Band breakout form where the trend is exhausted, we take the trade setup, because it is not too risky to go against the trend when it is exhausted.

Now, the question is how we can say that a trend is exhausted or is still strong and potent and it will be too risky to go against it?

That is the question I am asked almost every day, because many of you still have problems to distinguish whether the trend is still strong or has become exhausted. Although I have already written several articles and analysed too many sample trade setups to show you how to locate a too strong candlestick pattern with a strong Bollinger Bands breakout on an exhausted trend, I am going to explain about this topic more in this article. However, it will be great if you read those articles first. Please refer to this article and read all the articles listed in it.

Now, I am going to explain about the trend strength in the markets, and then explain how and when a trend becomes exhausted. I am going to support my explanation with some examples. Although we don’t use any indicator to measure the trends strength or exhaustion, I will introduce some of the most famous indicators that are used for this purpose, and will tell you which one is the best. Maybe novice and inexperienced traders want to have these indicators on their charts at least for a while to know whether the trends are still strong, or are getting exhausted. Of course, the price chart talks by itself and we don’t need any indicators to know whether the markets is trending or ranging.

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Markets Strong Trends

One of the most famous features of the currency market is the ability of creating strong and continuous trends. The other markets, including the stock market, usually don’t form such strong trends that the markets forms. There are some exceptions in stock market that I show you here to have a comparison with the trends we have on the markets.

Google’s stock uptrend is one of the strangest on the stock market. It has been trending up almost continuously since September 2004 that Google entered the New York Stock Exchange. It has been going up from $49.95 to $607.22 and it seems it will go even higher:

Google

Another example from a strong trend in stock market belongs to Apple. Its strong uptrend was started almost from December 2009 that it broke above the $27.70 resistance level. Although it went down from September 2012 to June 2013, but it is a while that it has kept on going up to continue its strong trend:

Apple

Google and Apple are two examples of the too strong trends on the current stock market. They are exceptional in the history of stock trading. Microsoft did the same long time ago and formed a too strong uptrend from 1986 to 1999, but went down after that and formed a ranging market for several years. It is since March 2009 that it has started going up again:

Microsoft

American Online (AOL) is also another exception. The great decision they made on February 2011 to buy Huffington Post for $351 million, saved the company from bankruptcy. AOL share went up from $12 on September 2011 to $50.77 on January 2014:

AOL

Although there are too many other strong companies, they have not been able to form such trends. Most companies are going sideways for several years. Look at Yahoo stock which has been moving sideways almost since 2001:

Yahoo

Google, Apple, Microsoft and also what AOL did recently are just exceptional trends on the stock market. Such trends form usually once in the history of a company, and they never become repeated again. However, too strong trends on the markets are what we see with different currency pairs sometimes several times per year. Look at the most recent trend EUR/USD has formed on the daily chart since 2014.05.08:

EURUSD Daily Chart

You can locate tens of trends like this with different currency pairs on different short and long time frames. Compared to the stock market, currency market trends are much much stronger and more profitable.

Currency Market Trends Strength And Exhaustion

Now, let’s get back to our discussion which is about the currency market trends strength and exhaustion. As I told you, forming a too strong candlestick reversal pattern with a strong Bollinger Band breakout is not enough for us to take a position. Where the pattern is formed, is also very important. For example, when a too strong Dark Cloud Cover or Bearish Engulfing Pattern that are strong bearish reversal patterns, sell signals or short trade setups, form on a too strong uptrend, we don’t go short, because it is too risky to go short on a too strong uptrend and while the trend is still strong, even if the candlestick pattern is too strong.

For example, a too strong Bearish Engulfing Pattern formed by 2012.09.06 candlestick on GBP/AUD daily chart while there was a too strong uptrend. Although the 2012.09.06 candlestick was a relatively strong bearish candlestick and it formed a strong Bearish Engulfing Pattern, as it is formed right on a too strong bull market, it has to be ignored. This is true that GBP/AUD went down for a few candlesticks after that, but we never know. We have to take the strongest and safest trade setups:

GBPAUD Daily Chart

What do I mean when I say the uptrend was too strong?

Look how strongly the price has been going up for several consecutive candlesticks (below). Such a strong upward movement means bulls have the full control and they will not give up so easily. As you see, the price went down after the 2012.09.06 Bearish Engulfing formed, but it was stopped by the Bollinger Middle Band and went up strongly again:

GBPAUD Daily Chart

Several days later, another strong Bearish Engulfing Pattern forms on GBP/AUD daily chart by 2012.10.08 candlestick. The difference was that this time the uptrend was not as strong as it was when the 2012.09.06 pattern formed, because although the small bearish movement that formed after the 2012.09.06 pattern was not that strong, it could be known as an exhaustion signal indicating bulls were not as strong as they were used to be. After the small bearish movement (1st exhaustion signal), another small exhaustion signal formed (2nd exhaustion signal) that was stopped by Bollinger Middle Band, and the uptrend was continued for a few more candlesticks, but then the 2012.10.08 pattern formed. Look how the price collapsed after this pattern formed (the big red arrow on the below chart), compared to the time that the 2012.09.06 pattern formed. Now you see the difference. The 2012.10.08 pattern formed when the uptrend was exhausted, but the 2012.09.06 pattern formed when uptrend was still too strong:

GBPAUD Daily Chart

So, when a too strong candlestick pattern with a strong Bollinger Band breakout forms somewhere, we should also look for the exhaustion signs formed before the candlestick pattern. The exhaustion sign can look different on different charts. They should be able to assure you that the trend is not too strong anymore and can reverse after a strong reversal signal.

Is there any guarantee that the market follows a too strong trade setup that has formed on an exhausted market?

Of course not. It is possible that the trend keeps on following the same direction it has been following, for several more candlesticks, even when there are some good exhaustion signs. However, we have to do our best to take a trade setup that has a lower risk. To lower the risk, it is better to take the too strong trade setups that are formed on the exhausted trends. Although there is no guarantee that these trade setups work 100% of the time, it is still safer to take them, compared to the trade setups that form right on the too strong trends.

Now, let’s take a look at a long trade setup formed on a bearish market.

On 2010.10.25, a strong Doji with a strong Bollinger Lower Band breakout closed on GBP/AUD daily chart. It was confirmed by the next candlestick. That was a strong long trade setup, but the problem was that it was formed right at the bottom of a too strong bear market while no signs of exhaustion was formed before (the big red arrow at the left side of the below chart). Therefore, the price made some too small bullish movements (the green arrow), and then kept on going down very strongly. That is why we have to avoid the reversal trade setups that form right on the strong trends.

GBPAUD Daily Chart

This is what the trend strength and exhaustion mean. A trend is still too strong when no exhaustion sign is formed on it. The first exhaustion sign that forms on a strong trend means that the trend is not as strong as it was used to be. It can still keep on following the same direction for such a long time, but the second exhaustion sign will appear sooner than later. When the trend goes to a range and starts moving sideways, it means it is too exhausted. If the range to be continued for a long time, then the price will change the direction and will go against the trend most probably.

This is something that happened on GBP/CAD daily chart on 2014.08.06. There was a too strong uptrend already formed on the chart (the big green arrow on the below chart), and then the market started moving sideways and formed a range (the middle red arrow). The range was continued and it became longer than what a typical consolidation has to be. Therefore, when a too strong Dark Cloud Cover formed while the market was moving sideways, the price collapsed for over 800 pips (the big red arrow at the right):

GBPAUD Daily Chart

On LuckScout, we compare all the short trade setups we locate with this short trade setup, because it is the typical sample of a short trade setup that we take.

What if the market doesn’t keep on moving sideways for a long time and just forms a consolidation?

Then unlike what happened with GBP/CAD in the above example (the uptrend reversed and the price collapsed), the trend will be continued after forming a strong trade setup. This is something that occurred on CHF/JPY weekly chart:

Like GBP/CAD strong uptrend on the daily chart, there was a too strong uptrend on CHF/JPY weekly chart. After the 2013.12.29 candlestick closed, the uptrend stopped going up and formed a consolidation. Five weeks ago, a long trade setup formed above the consolidation support line, and so the uptrend was continued. If the market had kept on moving sideways like what GBP/CAD did, then the uptrend would have collapsed after a strong short trade setup:

GBPAUD Daily Chart

Trend Indicators

Hope what I have explained so far is clear enough. As you saw, the price chart is enough to know whether the trend is strong or is exhausted. You can easily know whether you can go against the trend, or you have to wait for a continuation trade setup. However, there are some indicators that can help you know whether the trend is still strong or exhausted, or is about to get exhausted. If you have any problems to distinguish the trend strength or exhaustion, and you can not see the exhaustion signs, you can add these indicators to your charts till you become experienced and skilled enough to know the trends behaviour.

MACD

MACD is one of the strongest trend indicators for all markets. Let’s add it to the above charts and see whether it can show the trend strength and exhaustion or not.

Below is the GBP/CAD daily chart I showed you above. As you see, while the uptrend is still too strong, MACD histogram is moving above the zero level and forming higher highs. However, as soon as the uptrend is stopped and the price starts moving sideways, MACD bars break below the zero level and start forming short bars below and above this level. When the price is moving sideways no long MACD bars form on the chart and also you don’t see those strong highs and higher highs anymore. When MACD is sending you such a signal after a strong uptrend, you have to get ready for a too strong short trade setup to go short:

Below is the CHF/JPY weekly chart:

Same story here again. When the uptrend is strong, MACD bars form above the zero level and are long and strong. However, after forming a MACD Divergence which is a strong reversal signal, the price starts moving sideways and MACD bars become much shorter. In spite of having a strong MACD Divergence, we will never go short when there is no too strong short trade setup formed by the candlesticks. Instead, we wait for the trend continuation setups while the consolidation is still short enough to be known as a consolidation, and has not become a too long ranging market like what you saw with GBP/CAD:

There are some other trend indicators like Average Directional Index or ADX, and also different kinds of moving averages, but as they don’t work as strong as MACD, I am not going to waste your time by them. If you are supposed to have a trend indicator on your charts, MACD is the best one.

I also wrote an article about slower settings of MACD which is what you may want to try (below charts). Please note that on both of the below charts (CHF/JPY weekly and GBP/CAD daily chart), the trade setup formed exactly when MACD bars had became too small compared to the time that the price was trending and going up strongly. With CHF/JPY, it meant the trend wanted to be continued after a while that the market has been slow (consolidating), and with GBP/CAD it meant the trend wanted to reverse after a while that the market has been ranging and moving sideways.

     

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67 thoughts on “Trend Strength and Exhaustion and Trend Indicators
  1. Daniel says:

    another great article Chris!
    I’m sure it completes the overall puzzle for many of us!
    Respect!

  2. Ted says:

    No Questions here.. Just a thank you!

    Ted

  3. Tom says:

    Hi Chris and my LuckScout family, first sorry for off topic, but I want to tell you great news, we have new LuckScout follower, today my first son was born 🙂
    I am very happy man
    PS: ofcourse, first he start on demo account 🙂

    • Chris says:

      Hey Tom,

      Wowwwwwwwwwwwwwwwwwww! 😀

      Congratulations for the best event of your life. Nothing has the joy of seeing your baby breathing in this world for the first time. Now you really have to follow the long time frames only, because you MUST enjoy each and every second of your time with your son. Help your wife as much as you can. Bath your son, change his diaper, touch his skin, kiss him all the time, make him laugh, tickle him, put him on your shoulders and let him throw out on your head… Enjoy all these things as much as you can. Time flies.

      Congratulations man. Now you are the happiest LuckScout follower 🙂

    • dragan says:

      Hi Tom,
      Congratulations, may he be blessed with good health and happiness.

      Dragan

    • LG says:

      Hi Tom, many congrats, wish you a happy fatherhood and May GOD bless the new born with all the happiness in life.

      Hi Chris, thanks for another superlative article which was useful to many people because to discern an exhaustion from a strong trend is a tricky affair. Let me learn MACD till i get comfortable spotting it through candles, but just from a visual perspective is it fair to say if the candles form zig zag pattern it means a sign of exhaustion in conjunction with 4-5 candles which are formed before the confirmtion candle.

      Also Chris, can you publish articles on continnuation trades as it will give traders the opportunity to look for more opportunities. thanks and rgds LG

  4. Phakamani says:

    Hi Chris

    Thanks for an informative article

  5. Redpants says:

    Chris Thanks again for the great articles that inspire to stay on the right path and be successful . Good luck to all in the week ahead .

  6. singh says:

    Hi Chris,

    once again great article. I just came back from vacation and ready. Have a long list to go over your articles which I missed but `ll catch soon

    happy trading

  7. Nick says:

    Hi Tom

    Congratulations! It sure is a VERY BIG event in you and your family’s life. As Chris said enjoy every moment it, time flies! 🙂

    Hi Chris are you well now? Sure hope so 🙂
    Chris I know you said the Stoploss orders must be reasonable and not too tight but also not too wide. In your experience what would you say is the absolute minimum for Stoploss? 50, 60, 80 pips?
    Thank you

    • Chris says:

      Hi Nick,

      I am fine. Thank you.

      We look at the candlesticks to determine the stop loss level. Therefore, the stop loss pipage depends on the currency pair and time frame. For example when you go long with EUR/USD based on a Bullish Engulfing Pattern on the weekly chart, the middle of the bullish candlestick that has formed the setup will be for example 100 pips, but if the same setup was formed on the daily chart it would be 60 pips.

  8. dragan says:

    Hi Chris,

    Could we sav that EURCAD D1 is now exhausted?
    http://www.mql5.com/en/charts/2637005/eurcad-d1-alpari-limited

    Dragan

  9. dele says:

    Thanks Chris first time of commenting

  10. Nick says:

    Understood
    Thank you

  11. Andy .C says:

    Many Thanks for u sir..
    I just start to follow the long time frame..as u said..and
    get back to shorter time frame to draw line S/ R
    until the price break the S/R line..
    i will start my position..

    My question is
    Am i right about what i do when i saw the strong set up..??

    Andy

    • Chris says:

      Hi Andy,

      That is also a good way to trade the strong setups on the long time frames through the support/resistance breakout on the shorter time frames. I even wrote an article about it here:
      https://www.luckscout.com/trade-the-daily-and-weekly-candlesticks-signals-on-the-short-time-frames/

      However, this is not what I do, because it is not worth doing it. I get good result by following the strong trade setups on the long time frames and taking them on the same time frame. Referring to the shorter time frames makes the work complicated and it is even possible that you miss some trade setups, because sometimes short time frames don’t give you any chance to enter when there is a too strong trade setup on the long frames.

  12. Sutivserv says:

    Thanks for your explanation, it is well understood but can we also say that when the UBB and LBB are contracting that it is a sign of exhaustion too.

  13. alwin says:

    Thank you Chris,

    Excellent live sample for finding key factor for trend change.

    GOD Bless you & your family. Thank you for your parents also, because what a generous heart is growing in you.

    Thanks to Your team

    bye
    Alwin

  14. Angus says:

    Hi Chris,

    It’s me again. I hope you are ok receiving all my questions. 🙂

    I want to ask you about this comment on the article because I am having a hard time understanding the real characteristics of exhaustion. I thought any kind of hesitation when it goes sideways for a while is a sign of exhaustion. But I think you have a different rule.

    You said “After the small bearish movement (1st exhaustion signal), another small exhaustion signal formed (2nd exhaustion signal)”. What do you mean “small bearish movement”? how do you characterize small bearish movement, how small is small, how long?

    I want to differentiate this with something that will end up being a flag/wedge, which you said it’s a sign of continuation.

    Thanks.

    • Chris says:

      Hi Angus,

      > What do you mean “small bearish movement”?

      You can see on the screenshot. The first red zone:
      https://www.luckscout.com/wp-content/uploads/2014/11/GBPAUDDaily-5.png

      > how small is small, how long?

      Compared to the strong bullish movement and uptrend, 1st and 2nd exhaustion signals are too small, aren’t they?

      • Angus says:

        Aha, I thought you talked about the size of the candles being smaller than during the strong uptrend.

        But please confirm if you meant the candle on 2012.09.06 and the next set of 6 candles? If that so, I do understand that there are a set of two exhaustion movements.

        Ok now that being the case, how many times exhaustion movements would you then confirm it as exhaustion. Obviously on 2012.09.06, you ignored that set-up because the trend was on the top of a bullish pattern. Then comes the 2nd exhaustion pattern, is that enough?

        On my other question regarding CHFJPY https://www.luckscout.com/short-trade-setup-on-jpy-cross-currency-pairs/, you indicated that the exhaustion is not strong. But I see both this and GBPAUD above to have very very similar exhaustion model. One key difference is GBPAUD showed a too strong bearish engulfing candlestick that CHFJPY did not exhibit.

        But in terms of exhaustion, they are both showing similar strength?

        Would that be the right assessment?

        As always, thanks.

        • Chris says:

          Yes, those 6 bearish candlesticks.

          > how many times exhaustion…

          It is not the matter of numbers. Just the price has to tell you that the trend is not as sharp as it was used to be.

          > On my other question regarding…

          I will compare these setups and will have a post about them to have a detailed clarification.

  15. iskahari says:

    Thank you very Mr.Chris for giving good article with examples. thanks once again.

  16. Shalewa says:

    Thanks for this great article. I have really learnt a lot since I found LuckScout site. I like your simplicity.

  17. Düajé says:

    Hi Chris,

    Thanks for another gr8 article. They’ve been blessing me with knowledge and market wisdom.

    @$halewa i want to know if you trading from Nija? If yes, i’m glad i’m not alone.

    LuckScout is a stroke of a genius.
    LuckScout school you in the jujitsu of trading stop loss. LuckScout will train you in the art and finesses of price action trading.

    The site is a Great Gift from God. And my BEST ADVICE is to STICK TO IT. I wish you more pips in your trades.

  18. syida says:

    Thank you chris

  19. vinay P says:

    Thank you.

  20. Steve Edwards says:

    Great article Chris, I’ve read similar articles…BUT…You’ve explained this subject in layman’s terms making it very easy and logical to understand. I feel I am finally starting to understand things..:)

    Thank you for giving us the tools to succeed..!!

  21. Kumaran Rahavan says:

    Chris,

    MACD is very often labelled as very lagging indicator and the trader usually not able to pick up indication early as the bars appear after the trend has much grown up and thus results in lesser benefit. Is it true?

    It is also stated that MACD is very much suitable trading with Weekly and Monthly suitable? Is that right?

    Thank you.

    Regards,

    Kumar

  22. Kumaran Rahavan says:

    Chris,

    You are the great. I have been believing that MACD is a useless indicator after reading an article ridiculing it. The fact about how to use its lagging quality into trading was not revealed in any of the online seminars and books read. You are the only person has explained clearly. You have opened my eyes regarding MACD.

    Thanks a lot.

    Regards,

    Kumar

  23. Ivan Todorov says:

    Hello Chris, as I see there are some exhaustion signs on GBP/CAD chart. If there was strong reversal pattern after them is it correct to take short positon based on your GBP/AUD example?

    Thank you.

  24. Abster R says:

    Hi Chris,

    You mention that if the price is ranging for longer than normal it is an indication of reversal. My question is, how long is normal?

    I know there is no exact science to it but is there a general rule of thumb?

    cheers
    Abs

    • Abs,

      Moving sideways to form a consolidation like triangle, pennant, flag and… is normal. But when the price keeps on moving sideways for a longer time which is longer than the length of a normal consolidation, it means bulls are hesitant to keep the control and they will give up soon and the price will reverse.

      Now, you may ask what is the normal length of a consolidation? It is something visual-based and there is no number for it.

  25. Len Ekenstam says:

    hi chris and others, when looking at candle charts during sideways markets i look at the spread between the highs and the lows. sometimes the spread is 200 to 300 pips. is that suitable to trade when the trade stays range bound for weeks at a time before trending? looking for strong setups before placing a trade? please advise. len

  26. smart guy says:

    Thank you for your informative post but please I want to ask in some of the strong uptrend you showed above (e.g GBPCAD chart) there are some setup that looked like exhaustion point but I observed you did not refer to them. Is it beacuse no trading setup was formed berfore this ‘false exhaustion’ if you dont mind my term. Hope you understoodd my question.

  27. smart guy says:

    If you look at the formation around 5th Dec 2013, there is a ‘W’ like swing between the upper and middle bolinger band which seems to me like sign of exhaustion except I am wrong.

  28. smart guy says:

    Sorry. GBPCAD. Actually the last picture in this article. Thanks

  29. Nir Antman says:

    Thank you for this great article Chris,
    What I was so sure that is clear to me now is MUCH clearer.
    have the best 🙂

  30. Luis Pablo Partearroyo says:

    Do you use MACD to decide your trade settings

  31. Johnfaith Noble says:

    good work, will look into it now

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