Why trendlines are dangerous ?
There is a lot of debate wether or not trendlines are relevant. Today, I won’t give you my opinion on that subject but I’ll try to explain why they can be very dangerous for a uninformed trader.
1/ Because it gives you a wrong bias
When we topped at $20k in December for Bitcoin, a large majority of the people were extremely bullish and were calling $30k, $50k, $100k… I could not blame those people, Bitcoin’s price had been on an incredible bull run in 2017 and nobody knew when it would end. To sump up, everybody’ bias was bullish.
During the last few months of 2017, trend became more and more parabolic making us draw more and more vertical trendlines. Eventually, we dipped below the more vertical trendline but closed above : “Parabolic trend still intact”. But later, we actually broke this trendline closing below it and this is where magic happens… Bullish bias was so strong that people started to zoom out in order to show that overall, trend remained bullish. You know what happens next, they find another trendline which allows them to say : “Bull trend still intact”…
2/ Because breaking a trendline does NOT mean much
How many times did we read that when we broke the downtrend line it meant that bear market was over ?
I saw this type of interpretations a gazillion times, especially concerning altcoins who have been downtrending for several months and who finally break above it. Many times, so-called traders make the mistake to think that bear market is over.
DonAlt made a great article about the fact that this downtrend line is overrated. And when you see what happened next, you realize how right he was.
Trend : The trend is the general direction of a market or of the price of a security. (Investopedia)
The definition tells us exactly what we need to understand. A trend is a direction. Nothing more. Once we break a downtrend, we can form another downtrend with a different angle, which is usually the case. We normally form a more horizontal trend until it looks like a trading range on a bigger timeframe.
3/ Because you got trapped by a wick
To understand the typical mistake novice traders make, I’ll explain it step by step:
A/ You first draw a trendline linking 2 points and now expect your trendline to act as a support when/if price drops.
B/ It eventually does, dipping a little below but closing the body of the candle above it. You are a genius, you bought the f******g dip.
C/ Price breaks and closes below the trendline. It’s over ! But you see that price wicked on the previous swing low and there comes your big mistake…
D/ You THINK you’re a genius, that previous trendline wasn’t that relevant and that you have your new bottom to $100k.
E/ You eventually even redraw your trendline with the last wick because…why not ? Price dumps hard because buyers left the building several days ago and you are forced to close your long position 10% lower than you would have if you ignored the wicks in the first place…
Conclusion :
As you can see, trendlines are very easy to misuse and this is probably one of the main reasons why they are criticized so much. I don’t believe trendlines are useless but they’re good for confluence combining them with horizontal supports/resistances.
