Skill Sheet: What You Will Learn Here
- What is multi-timeframe trading in technical analysis?
- Multi-timeframe trading benefits
- How to choose time frames?
- Risks of multi-timeframe trading
Multi-timeframe trading in technical analysis involves analysing the stock price charts in different time frames to identify the broad trend and early entry and exit points. Trends are easily identifiable in higher time frames, while the entry and exit are more clearly identifiable in the lower time frames. A higher time frame is a compressed version of a series of lower time frame prices. Lower time frames build the higher time frames. Therefore, reversals can be spotted early on.
Markets are not linear and move in a cycle of an uptrend, intermediate correction and downtrend. An intermediate correction can be a potential downward reversal in the case of an existing uptrend and can be a potential upward reversal in the case of a downtrend. Therefore, it is essential to zoom in on the lower time frame to identify if the price will add up to become a reversal or a mere pullback.
How to choose time frames?
Choosing a time frame depends on the time horizon that an individual market participant is seeking. A short-term trader would prefer a much shorter time frame from weekly to daily or hourly, A swing trader may prefer an hourly time frame and to a few minutes. An investor, on the other hand, would prefer a larger time frame like a monthly to weekly or daily.
Professionals generally prefer a combination of three-time frames when choosing multi-time frame trading. A higher time frame, like the monthly, is used to spot the long-term trend and check if there is an uptrend or an intermediate correction. While a medium time frame like a weekly is used to take advantage of the intermediate correction for trading or participate in the pullback for entry to participate in the trend. The lower time frame is used to enter or exit the trade.
A ratio of 1:4 or 1:6 is generally followed. If the higher time frame is monthly, the medium time would be weekly and the actionable time frame will be daily or even hourly. For fine-tuning, one can go further down into minutes. If a trader uses a 15-minute chart for his trade set-up he can check the broad trend hourly (60-minute) and enter in a shorter time frame. Choosing a time frame is purely based on the trading style.
Trading multi-timeframe opportunities
In this section, we will learn about the advantages of multi-timeframe trading, some of the risks of multi-timeframe trading, and what to keep in mind. Trading a multi-timeframe begins with identifying the broad trend. If the broad trend is bullish, one can wait for an intermediate correction to enter a long trade and vice-versa. However, if the intermediate correction is extended, one can trade the intermediate trend itself before there is a break-out of the intermediate correction. It is important to know about drawing trend lines and candlestick patterns as it will help identify the beginning and end of a pullback for entry and exit purposes.
In our example, we shall use weekly and daily time frames for our multi-time frame trading analysis. In the below chart of Titan, we can see a rising wedge formation in the weekly time frame. While both the lines are upward sloping, the upper trend line has a much lower slope than the lower slope. Wedges are a distribution pattern that indicates that the bulls are exhausted as the lines converge, and eventually, the support is breached as the trend lines converge and prices fall.
The lower trend line has four touch points, while the upper touch point has three touch points, and there is a throw-over in the third touch point. The throw-over indicates that the upper trend line will be broken, but selling pressure at higher levels ensues. In the chart below, the long bearish candle is a dark cloud cover at the top, indicating a bearish sign confirming the selling pressure. Also, the last candle at the lower trend line is a harami pattern and a bearish pin bar indicating a high probable breach of the lower trend line. The icing on the cake is the MACD showing negative divergence where the price is making a higher high, but the MACD is making a lower high. This is a highly probable reversal setup.
Let us zoom in on the daily chart of Titan and examine the price behaviour for action. In the daily chart of Titan below, after touching the upper trend line the prices have faced resistance and are unable to sustain a further up move. A hanging man candle pattern also appears at the top. The second candle is a bearish Marubozu supporting the slide. The prices consolidate near the lower trend line for several days, indicating a distribution. Finally, the prices gap down the trend line and slide sharply. One cannot but fail to observe the negative divergence in daily MACD as well confirming the fall is imminent.
If we zoom in further into the hourly chart, a gap down at the opening is seen. The price has slid during the day to close lower and subsequently seen a constant slide.
The multi-timeframe is a combination of many things to form an opinion. It helps in arriving at a broader view from a larger time frame. At a lower timeframe, a trade set-up can be identified, and at a further lower time frame, entry-exit can be planned. This helps the trader know what he will trade and how in advance. Better risk management is possible as stop losses can be fine-tuned in the lower time frame. Before embarking on multi-timeframe analysis, it is important to get familiarised with candlestick patterns, trendlines indicators and price action. Practice is essential in multi-time frame analysis.