Price Action Confluence
When making use of Price Action as your main trading strategy, you can use confluence to devise your personal investment strategy. In the previous chapter, we discussed how you can use Price Action to determine entry and exit points for your trading strategy. In this chapter, we are going to look at how you can use confluence to set up your trading strategy.
As with all Price Action trades, it’s important to keep a close eye on trends. Given the fact that Price Action is dependent on tracking price movements, setting up trades using confluence requires close study of price movements.
On the whole, confluence can be defined as the interaction between two or more levels. This interaction occurs within a single currency pair. As such, you need to be looking at the various levels of price action. For the purpose of this book, we are going to be looking at three specific levels: support, resistance, and trend. These three levels are what you need to track in order to determine confluence.
It is the interaction among the various levels, which makes the strategy work. When you identify the confluence of levels, you can determine entry and exit points, or perhaps spot signals for breakouts.
About Resistance and Support Levels
The simplest way to spot support and resistance levels is by spotting highs and lows. This is the easiest way to identify such levels without resorting to technical analysis tools. If you choose to employ technical analysis tools to determine support and resistance levels, you can get reasonable assurance that these are proven to be accurate. The way in which the platform calculates these levels is by comparing trend to the highs and lows of the timeframe under examination.
Just as we have discussed in earlier sections of this book, you can spot your levels by marking three consecutive hits on the levels you have identified. These consecutive hits must fall within the range. If there are breakouts or breakthroughs, then you need to be reasonably sure that they are within the range you are tracking. Be wary of points that break out of a resistance level as this could signal a new resistance level. By the same token, you need to be wary of price action breaking through a floor as this could signal a new floor. If you fail to spot this possibility, you could enter or exit at the wrong point.
An easy way to spot a new floor or ceiling is through the use of a “double top” or “double bottom.” A double top consists of two consecutive hits above the resistance level you have identified. This is observed when there is a bullish trendline. So, you have identified three consecutive hits that you used to establish a ceiling. Then, you detect a hit above the resistance level, which then reverts to the mean. If the next hit pops above the resistance level, then you have just seen a double top. At this point, you can expect a breakout. When the breakout occurs, the third hit will rise above the ceiling. Therefore, you can reasonably assume that the new ceiling is now in place.
On the flip side, price action that breaks through the floor on two consecutive hits is considered as a double bottom. This is seen in a bearish trend. As such, the new floor is established when the trendline hits below the floor two consecutive hits. You can then reasonably assume that the third hit will fall below the floor. This could mark a great entry point if you are looking to play off the rebound.
During this analysis, confluence occurs when the overall trendline intersects the resistance and support levels you have identified. As such, the trendline will ultimately determine what you can expect moving forward.