Counter trend trading is popular among the biggest investors in the recent history of financial markets. Warren Buffet, Keith Gill, George Soros or Baron Rothschild. What do they have in common? Well, they are all contrarian traders. Who is a contrarian investor? This is someone who does not go with the market trend but against it. And this is also the topic of today's article.
|→Counter trend trading involves going against the prevailing market trends.|
|→This strategy can be applied to various financial instruments and timeframes.|
|→Proper risk management and patience are crucial for success in counter trend trading.|
What is counter trend trading
The main rule for counter trend trading is not to follow the others. When everybody is buying, you sell. Everyone around is selling, you buy. Most traders want to be rich fast and they act on their greed and fear. Contrarian traders think differently. They go against the flow using the fear and greed of others to make some money.
The counter-trend strategy may be used for any instrument, from stocks, and forex to futures and cryptocurrencies. It will work on a daily as well as on 5-minute timeframes. There are some indicators that might be applied in contrarian strategies such as moving averages, RSI or MACD, however, we are not going to use them. We will simply draw a trendline on the price chart which you can accomplish with the drawing tool available on the IQ Option platform.
A few steps to take when trading with the counter-trend strategy
- Choose the stock or any other asset that has been down for some time. Three months of a downtrend will be good enough. Such a long period makes the probability of panic explosion among traders higher. And this is exactly what is needed in this strategy.
- The next step is to draw a trendline on the price chart. It should not cause any problems. Just in case, you can check our article for the basics of drawing a perfect trendline.
- Wait for the breakout. The candle breaks the trendline when it closes above it.
- Most probably some sideways movements will appear. Many traders were living in fear for such a long time that the moment the price breaks the trendline they hope for the price to go up. But the price shows some sideways movements and after some time they lose interest. A contrarian trader has to wait this period through.
- Until this step where the sideways movements are broken. To catch the correct moment you can either watch the price action or draw an additional trendline or horizontal line. And the moment you spot the breakout from the range, you enter a trading position.
- To be more secure, you should place a stop loss just a few ticks below the lowest low in the prior downtrend. Trail your stop loss together with the price moving up. Your position will be totally safe when the stop loss is trailed at the level at which you have opened your position. But you can hold the position open for a long period of time. Even up to the all-time high. Everyone else will be entering the market after you drive the prices further up.
Counter trend trading examples
On charts of different assets and on different time frames you will find many situations where the methodology discussed today is applicable. Below is a daily chart of Ethereum. After breaking the downtrend line the market was moving in a sideways trend. Breaking the horizontal resistance line gave a signal to take a position.
Another example is AUDUSD on the m15 chart. Note the uptrend that formed after breaking through resistance. In such a trend it is easy and pleasant to manage the open position by moving the stop loss under the local lows as the price breaks through the subsequent peaks.
Finally, we have the example of the eurodollar on the hourly chart. Note that the market has given an extra chance to the latecomers. After clearly breaking through the resistance line, the market returned several more times to this area giving an additional opportunity to take a long position at a good price.
Pros and Cons📈📉
- 👍Can yield significant profits by capitalizing on market reversals
- 👍Applicable to various financial instruments and timeframes
- 👍Encourages patience and disciplined trading
- 👎Requires advanced technical analysis skills
- 👎Higher risk compared to trend-following strategies
- 👎Not suitable for inexperienced traders
|Counter Trend Trading Tips||Description|
|Selecting the asset||Choose an asset that has been in a downtrend for at least three months.|
|Drawing trendlines||Identify and draw the trendline on the price chart to determine potential breakouts.|
|Waiting for breakouts||Exercise patience and wait for the price to break the trendline and move sideways.|
|Entering the trade||Enter the trade when the sideways movement is broken, and the price breaks through the range.|
|Setting a stop loss||Place a stop loss just below the lowest low in the prior downtrend to manage risk.|
Final words on counter trend trading strategies
Contrarian investing means getting into the market before everyone else. The breakout from the trendline is not your trading signal as the price may still move further downwards. You should wait until the sideways movement is broken.
With the counter trend trading system, you may do both, buy and sell. Just apply the same rules in the opposite direction and you are good to go.
Do not forget to set a stop loss. You do not want to lose more than you can handle. Risk management is very important in trading.
Use the IQ Option demo account for practice. You do not have to risk your capital until you know well the rules for the counter-trend strategy. And the demo account is an excellent place to learn them.
What do you think about counter trend trading? Share your opinion in a comment under the article.
- Q: What is the main principle behind counter trend trading?
- A: The main principle is to go against the prevailing market trends, buying when others are selling and vice versa.
- Q: Is counter trend trading suitable for beginners?
- A: Counter trend trading can be challenging for beginners due to its higher risk and the need for advanced technical analysis skills.
- Q: What type of financial instruments can counter trend trading be applied to?
- Q: What is the main principle behind counter trend trading?
- A: Counter trend trading can be applied to various financial instruments, such as stocks, forex, futures, and cryptocurrencies.
- Q: What indicators can be used in a counter trend trading strategy?
- A: Some commonly used indicators include moving averages, RSI, and MACD. However, for this strategy, we are focusing on drawing trendlines on the price chart.
- Q: How can risk be managed in counter trend trading?
- A: Risk management is crucial for counter trend trading. Placing a stop loss just below the lowest low in the prior downtrend and trailing it as the price moves up can help manage risk.
GENERAL RISK WARNING
Kindly note that this article does not provide any investment advice. The information presented regarding past events or potential future developments is solely an opinion and cannot be guaranteed as factual, including the provided examples. We caution readers accordingly.
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