What is Range Trading?
Range Trading is a technique of stock trading, where a stock is bought and sold, when the prices move up and down with in a definable range.
Stock market moves only in three directions. Either it moves up, moves down or moves side ways. These trends are respectively called as an Up trend, a Down trend or a Side trend.
A side trend does not exhibit such a trending pattern. It keeps moving up and down, with in a range, some times haphazardly. It seems to go no where.
Can we trade in such a market?
Yes we can!
Most people who make money in trending market and loose all the profit in the range market. Trading in such ranges needs in depth understanding of such ranges, market cycles and knowledge of some indicators.
Such ranges can be traded in two ways.
By analyzing support and resistance patterns
Then a long trade can be taken when the prices hit the support line and rallies up. The trade is protected by a stop loss sell order below the support trend line.
Like wise a short trade can be taken when the prices hit the resistance line and pulls back. The trade is protected by a stop loss buy order above the resistance trend line.
By analyzing over bought and over sold patterns
Indicators like stochastics, relative strength index, indicates over bought and over sold areas. We can use these areas to trade stock which move with in a range.
When the indicator, which is in the over sold area, breaks above the 25 percent line, any short position is squared and a buy position is created. A stop sell order is placed below the previous swing low.
Similarly, when the indicator, goes to over bought area and then breaks below the 75 percent line, all the long positions are covered and a sell position is created. A stop buy order is placed above the previous swing high.
Range traders should ideally combine both of the above methods to get better results in trading ranges.
Buy when the price is near the support and the indicators are giving buy signal and sell when the price is near the resistance and the indicators are giving sell signal.
In either case if the stop loss order is triggered, then the position should be reversed. A break out above the range is the beginning of an up trend. A break out below the range is the starting point of a down trend. This break out trade is more fully discussed in Trend Line Break out under different types of chart patterns.