How to Trade in a Sideways Market

June 30, 2011, 8:28 am

Learning how to trade in a sideways markets is an effective trade approach to use because the markets dont always trend in a given direction plus it gives the trader the added benefit of trade diversification where using several established trading methods can help lower overall risk in trading the market. Since the markets dont always trend in an easily identified trend, the consequence of which is that there are often an abundance of viable trade setups in the trading ranges that result as price move back and forth between two identified price levels support and resistance to trade.

Price action is the movement that price makes from past to present and can be observed by using price charts. There are two types of price action: expansion and contraction. Expansion takes place when price is moving in a bullish or bearish direction while contraction shows price moving sideways in a back and forth fashion.

When expansion is taking place and a stock, for example, is moving in a bullish trend which can be identified the steady series of higher highs and higher lows in its price action but then begins to consolidate within a contracted price range, it forces the stock to trade sideways. It is within this sideways price action that you can begin to observe price support and resistance form in the trading range.

These price levels form because there are sufficient number of buyers that are holding a large enough number of shares at the bottom of the trading rage to forms a support level that is strong enough to reject any downward movement from the stocks price action, reversing it back to the upside.

Likewise, resistance is formed on top of the trading range because there a large enough number of sellers that are doing a combination of shorting the stock because they believe it is overvalued and/or taking profits which reverse the stocks price action back down to support.

This pattern will continue until enough buyers or sellers enter the market to take control of the trend and force it back into a period of expansion.

For the trader, this sideways market action is an opportunity to make a steady series of profits until one side -buyers or sellers takes control of the trend by buying at support, selling at resistance, shorting off of resistance, covering their short, and then basically you rinse and repeat as often as you like.

There are a couple of pointers that you should keep in mind though. First, is that trading ranges are basically locked into a static pattern so you should customize your entry method to adapt for that fact. When price touches a support level, as an example, identify the price bar that touches the price level and makes the lowest intraday low, then watch for the following price bar to close over that price bars price high.

This type of entry confirms that price has reversed back to the upside and you can further protect yourself by placing a stop loss order under the price bar that set the lowest intraday higher. For shorting off of resistance, just do the inverse of the previous example.

Also, trade off of the price level that would put you in the direction of the dominant trend. If the market is currently in a overall bearish trend, then it would improve your odds to stick to shorting a stock of its resistance level as it would then be moving in the direction of the stronger overall trend.

Now, you have a solid grasp of how to trade in a sideways market and a couple of tips on how to increase your odds of success. Spend time studying price charts to identify when a stock is in a period of contraction and then identifying the support and resistance levels until youre comfortable to begin trading. Take your time, start out trading small, and always use stops to protect yourself.

Youll learn effective entry methods and risk control as well as how to make winning trades in as little as an hour a day for free!

Billy Williams is a 20 year veteran trader in the stock and options markets as well publisher of where he publishes a free online magazine, The Intelligent Speculator, specializing in helping traders profit in the stock market. His articles have been published by several magazines including Futures Magazine and Stock & Commodities Magazine.

Filed under Stock Market Trading, Zed

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