How to build a simple trading strategy

When it comes to trading strategies, complicated does not necessarily mean better. Ultimately, the markets can only do one of three things: go up, down or sideways.

A simple trading strategy can be an effective way of catching significant moves, meaning you can use it across a variety of different markets.  

Technical analysis

At the core of many strategies is the idea of trading with the trend – often referred to as the trend-following technique. Markets normally take a while to reach their destination, and trends can develop over hours, days, weeks, or months.

The core of any trend-following approach is to first identify the direction of the trend and use an opportunity of a slight change in this main trend to jump on board. For instance, if the market is in an uptrend, a trader would be looking to profit from an increase by buying. If the market is in a downtrend, the trader would be looking to profit from a fall by selling short.

Trendline analysis

Trend lines are a simple but effective way of identifying trends to build a trading strategy. These sit below the lows in an uptrend, and above the highs in a downtrend. The below examples will demonstrate how to draw these on a chart. 

If we think that success in trading comes down to playing the probabilities, then trading with the trend as part of a simple strategy would put us on the right side of market sentiment – momentum should be in our favour. Trends, of course, do not last forever, and the trader needs to be ready to change their opinion when the market does. However, for most people, trend-following can be a more effective strategy than trying to blindly pick tops and bottoms.

Support and resistance

As can be seen from the trend lines drawn on the two charts above, they act almost as a barrier to the price. A market that is trending upwards will have the occasional sell-off – markets do not move in straight lines, and this ebb and flow is all part of the trend. The trend-following trader will use weakness in an uptrend as an opportunity to buy in, using that trend line as a reference point. In an uptrend, while the market is above the trend line, the trend is thought to still be intact, and this can be a core component of an effective but simple trading strategy.

The opposite applies in a downtrend. In the EUR/USD chart above, the market does have the occasional strong rally, but it fails to break through that falling trend line. These short bursts of strength would be used by trend-following traders to short sell and potentially profit from the next move lower. If the trend line gets broken by the price it may suggest that the trend you are following is running out of steam.

Trading market rises and falls

Spotting trends is easy in hindsight, but unless we have a time machine, we all have to trade in the present. There is a very good saying from a veteran trader, that the trend really should jump out at you, if it is there – you shouldn’t have to squint at the chart to try and spot it. 

The classic definition of an uptrend is higher highs and higher lows, while a downtrend is a steady procession of lower lows and lower highs. These should be easy to spot in your chosen timeframe. Adding the trend line may give you a reference point for where to enter a trade and, just as importantly, where to come out if the trend ends.