How to Use Trends, Trading Ranges to Analyze Performance

Plus, tips for identifying range-bound stocks

Digital Content Manager
May 6, 2021 at 12:56 PM
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    Any prudent investor will tell you it is important to do your research before buying any given stock, index, or exchange-traded fund (ETF). Two helpful ways to evaluate an asset's performance are trends and trading ranges, both of which analyze certain patterns to determine where an asset may be headed next, or perhaps where it may have gotten stuck.

    Trends

    There are a couple of different methods traders can use to identify trends. The most straightforward way is to analyze an asset's peaks and valleys. For example, if a stock is carving a channel of higher highs, punctuated by a series of higher lows, then it is likely in an uptrend. Conversely, a series of lower highs and lows is indicative of a downtrend.

    Investors can also determine an asset's direction by using moving averages, which are trendlines that reflect the price movement of an asset over a given period of time. This is often a reliable indicator, as moving averages are based off historical performance. For instance, a stock that is above a long-term moving average tends to stay on that path higher, while a stock that is below it may struggle to overcome that area of resistance.

    Trading Ranges

    When an asset experiences up-and-down movement, but no definite downtrend or uptrend can be established, that is referred to as a sideways trend, or a trading range. This can be observed when an equity adds 5% in one day, say, then erases those gains by falling 1% every day, over the next five days. In other words, the stock is back exactly where it started.

    Sideways trading can sometimes be a good thing, and other times a bad thing. It is not uncommon for a stock to trade within a range before it rallies higher, especially when it stands far above a long-term moving average. What can happen in this scenario is that the trendline eventually catches up to the stock's movement, catapulting it to higher levels.

    However, stocks can also get stuck in between two areas of support and resistance, without the necessary momentum to break out of this trading range and move in a clear direction. In other words, this is a range-bound stock. Sometimes, that sideways activity can go on for years.

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