Control the Chaos With 'Psychotic' Trendlines

Not all trendlines support or resist price. Some actually do both at the same time. I call these marvels of technical analysis "psychotic" trendlines, because they behave in a manner that will drive you crazy. But traders can still learn to interpret these lines and have another valuable tool at their disposal.

Technical Analysis 101 teaches that trendlines represent support or resistance levels where price should pause, or reverse. Their construction is simple enough. Find three or more highs or lows in a row, connect the dots, and extend out the lines for buying and selling decisions. But sometimes price action around trendlines can get just plain weird.

Traders need innovative ways to evaluate new setups. Psychotic trendlines give them another method to accomplish this difficult task. Charts hide many odd shapes that impact price action. It's this less-traveled path that may produce a trading edge that lasts a lifetime.

Different Types

What exactly are psychotic trendlines? The most common variety can be seen in a simple trendline or channel that vanishes from a price chart, only to reappear months or years later.

Furthermore, these phantoms show up exactly where you'd expect them if you had extended out their original pathways. Once they reappear, they resume all the normal dynamics you expect with support and resistance.

At first glance, these hide-and-seek lines just add to the burden of making sound price predictions. But they have considerable value because many traders never see them. That means you can base decisions on hidden support and resistance, thereby avoiding the crowd. This tends to be a highly profitable way to trade.

The second type of psychotic trendline is a lot more frustrating. Normal trendlines can suddenly transform into price pivots rather than support or resistance levels.

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Alan Farley is a professional trader and author of The Master Swing Trader. Farley also runs a Web site called HardRightEdge.com, an online resource for trading education, technical analysis and short-term investment strategies. At the time of publication, Farley did not have any positions in any of the stocks mentioned in this article, although holdings can change at any time. Under no circumstances does the information in this column represent a recommendation to buy or sell stocks. Farley appreciates your feedback and invites you to send it to [e-mail].. Also, click here to sign up for Farley's premium subscription product The Daily Swing Trade brought to you exclusively by TheStreet.com.

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