Trend Followers make money during market trends not because they predict anything but because they buy what is going up and they sell what is going down. They discover ways to measure and react to trends based on historical price patterns . Trend traders identify a trend and enter a trade with the predefined risk of a stop loss with a managed position sizing. Trend traders make a plan on how to exit based on their stop loss at a price level that will tell them that they were wrong.
“The whole world is simply nothing more than a flow chart for capital.” – Paul Tudor Jones
What causes a “trend”?
- Investors and traders have capital that they want to put to work, they choose to buy what they think will appreciate in value. As more and more capital flows into an asset it goes up in value as more outside money wants in to a limited supply of a stock. Stocks with smaller market caps can go up faster than big cap stops due a smaller supply of shares in small cap stocks.
- Key moving averages provide lines that traders can use for quantified entry and exit signals. The 50 day and 200 day moving averages are great examples of support areas where pullbacks in the best stocks reverse and up trends begin.
- Many times a stock will trend straight up with sustained momentum and a short term moving average will act as support for the entire up trend with few if any breaks in price beneath these key short term moving averages . For example the 5 day or 10 day exponential moving average.
- Stocks go up for only one reason: The current seller is not willing to sell for the current market price and the buyer is willing to pay more. Stocks move up because sellers will not sell for the current price and buyers are willing to pay more to get in. The stock market is an auction not a retail store, supply and demand make prices. Buyers and sellers are always equal, it is the price that changes to adjust to the supply and demand at different levels in price.
- Capital flows where earnings expectations grow. Traders and investors buy stock in companies they believe will increase in value based on the underlying companies projected increase in earnings.
- The only reason buyers buy a stock is that they believe they will be able to sell it for a higher price later. Stocks go up on the belief of higher prices in the future.
- Short sellers can drive trends by selling heavily on the belief that a stock will go down and drive the price down. Then short sellers can cause a rally when all the holders will no longer sell and the price rises and cause the short sellers to panic and buy back the shares they shorted. There are always two sides to a short sell, they have to first borrow shares to sell short and then they have to buy back to cover their shares creating future buying pressure.
The markets go from up trends, to range bound, to down trends. The big money is in the big wins that you can capture in the big trends.