Becoming a better trader using confluence trading

2022-09-14, 06:40

[TL; DR]

🔹 Trading confluence involves using two or more technical tools to evaluate price movements of an asset.

🔹 A trader should use a few technical analysis tools to avoid cluttering the trading chart.

🔹 Using both technical analysis and fundamental analysis helps traders to make the best trading decisions.

🔹 It is best for a trader to give three reasons for making a buying or selling decision.

Introduction

Knowledge, experience and intuition are key factors that make someone successful in trading, whether cryptocurrencies or derivatives. Knowledge is very vital in trading since it is the bedrock of the experience any trader acquires during his/her trading years. In particular, the knowledge of technical analysis and fundamental analysis empower crypto traders to increase profit or reduce losses. Notably, many people use confluence trading to have an edge in the market.

What is confluence trading?

Confluence trading means combining several technical tools or instruments to evaluate whether or not a certain trade results in profit or loss. In other words, a trader uses multiple signals and indicators to confirm if he/she is making a profitable trade entry or exit.
In most cases, traders combine price action and technical indicators to formulate trading strategies.

Trading tools

Since trading involves speculating on an asset’s price movement, traders should have the right tools and skills to make price predictions. There are many tools traders use such as moving averages, bollinger bands, fibonacci retracements, price action patterns, trendline, candlesticks, relative signal indicators (RSI) and supply and demand zones.

Importance of trading confluence

People, usually, make trading decisions based on reversal points. Therefore, confluence is essential in identifying potential reversal points so as to make trading entry and exit decisions. In most cases, reversal points exist on support and resistance levels. Trading confluence can also help determine worth breakouts during range markets.

Although you can use single indicators with success, a combination of tools turns to give more reliable indications of price movements. For example, a single technical tool can provide you with 50% accuracy on price movements. However, using two or more tools can give you better price predictions.

Examples of confluence

As we mentioned above, there are multiple technical tools a trader can use. The choices one makes depends on his/her understanding of the various tools.

A trader can combine the technical analysis tools the way he/she finds fit. For example someone can use a 50 period EMA moving average, 61.8% Fibonacci target and resistance and support. In fact, many traders prefer Fibonacci, moving average and Relative Strength Index.

Fibonacci and candlestick pattern

Some traders use Fibonacci and candlesticks to predict the price movements of certain assets. Let’s look at an example involving fibonacci retracement and a shooting star. By the way, a shooting star is a candlestick which has a long upper wick and a short lower shadow. It is a bearish signal if it exists in an uptrend.

When a shooting star appears on a resistance level during an uptrend it indicates a high possibility of a downward price reversal. Here is an illustration.

Source: FBS

In this example, there is a trading confluence involving fibonacci retracement levels and shooting stars.They both confirm a likelihood of a downward price reversal.

Every trader should use a trading platform which has these tools. Gate.io, one of the leading crypto exchanges, has various technical analysis tools which any trader can use.

Source: Gateio

The associated trader uses three technical analysis tools, RSI, moving average and candlestick patterns. The RSI indicates whether or not the market is overbought or oversold. It is very simple to select a combination of technical tools you want to use. Any trader can find them below the trading chart, as indicated below.

Source: Gate.io

To use any of these tools, a trader clicks on it, thereby adding it to the trading chart. In the above trading chart, there are bollinger's bands, candlestick patterns and moving averages. Once you have a similar chart, you can identify points of confluence as shown in the following chart.

Source: Gate.io Trading Platform

In the chart above, we have selected two points of confluence. The first point, marked 1, shows a two long-tailed candlestick pattern coinciding with an overbought position on the RSI. This is a clear indication of an impending downward trend reversal.

The second point of confluence, marked 2, has an RSI indicator showing an oversold position and narrowing range bars (NRB). Both indicate a high possibility of an upward price reversal.

How many technical analysis tools to use?

There is no set rule regarding the number of technical analysis tools that constitutes the best confluence. What is important is to select the tools which are completely independent of each other. If you use the tools which measure the same aspect, you get a fake confluence and you are likely to lose the trades.

How to find the balance among the technical analysis tools

It is important to have a reasonable number of tools. If they are too many, the trading chart becomes messy and it is difficult to get the best indication of possible price movements.

The thumb rule, however, is to have three reasons for any trading action you take. If you have a single reason to take a trade it is best to avoid it. In a general sense, this implies that a confluence of three technical tools can help you to make reasonable trading decisions.

The role of fundamental analysis

In addition to using technical confluence, it is best for a trader to have a proper appreciation of fundamental analysis. Fundamental analysis involves studying macroeconomic variables to determine potential movements in prices of investment assets. Examples of key macroeconomic variables are consumer price index, interest rates, changes in unemployment rate and possibilities of recession or economic booms.

Conclusion

Understanding and using technical confluence in analyzing the market is vital for having winning trades. It is essential to rely on more than one technical analysis tool when making trading decisions. However, it is wise to avoid too many tools as they can clutter the trading chart and make it difficult to analyse it.

Author: Mashell C., Gate.io Researcher
This article represents only the views of the researcher and does not constitute any investment suggestions.
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