Welcome to another edition in learning how to use technical analysis in your trading. As always this is simply for information and educational purposes only.

As a trader there are two things that you really need to look out for. Is the market in a trend or is it in a trading range? Today we're going to take a look at how to know if the underlying trend is going to be strong enough for you to trade with.

So the idea is if there is a trend developing, as a trader do you just want to jump on board or do you want to wait until the market has proven to you that the underlying trend is strong enough for you to capture a significant move?

So we're going to take a look at something called the ADX indicator and this indicator determines the strength of the current trend. The ADX indicator itself is measured on a scale of zero to 100 and readings below 20 are considered as non-trending. The ADX does not determine the direction of a trend. I will explain what that means as we go through some examples.

Let's take a look at this chart over here and you'll notice what I've done is I've sectioned the chart off.

This area over here where you've got these two blue vertical lines on the left hand side of the chart, I want to discuss the area in particular the market had already been rising up previously so we didn't actually capture the bottom of this. But if you take a look at this indicator at the bottom, (that's the ADX indicator), the red line itself is the indicator and on the right hand side it's plotted between zero to 100. You will also notice I've got a blue horizontal line running across on the ADX indicator. Now that line has been inserted at a level of 20.

So essentially what I'm doing is waiting for the ADX indicator to cross above the 20 line. As you can see, that occurred just on the very first blue vertical line. Then the market indeed rallied all the way towards the top. Now of course the market did continue to rally quite significantly. We didn't capture the whole trend but we captured a portion of that trend and that area there had delivered a 26 per cent return.

Then notice how the ADX indicator started to tail off. That was the early indication that the market may be running out of steam and so we really would have used other methods to tighten up our stops here.

Then of course the ADX indicator went below 20. As you can see, we pretty much went to a choppy sideways range there and that's what this indicator actually helps us with. If it's trading below 20 we may be in a trading range.

Now at this point over here the ADX indicator did get back above the 20 line, so that's technically a good buy signal. But I want to point out something in the next chart, but for now notice this other vertical blue line and how the ADX indicator has risen quite steeply. Now that point there, although the indicator is rising, that doesn't mean to say the market is going to rise. It means that the trend is strong. The market itself was actually falling. So what it is saying is that the market is falling quite sharply. In other words, there is a strong move behind that and the market dropped 11 per cent at that stage too.

Now this chart over here, again you'll notice that I've got two sections marked off. Now the first section again we have the ADX indicator above the 20 line. The market had delivered a 25 per cent return and on the second area we had a 2 per cent return.

So I just pointed out earlier on why we would look at certain areas of the ADX indicator. The difference is that on the first section compared to the section on the right hand side over here, the slope is much steeper than the second one, so that's suggesting that this trend itself is quite stronger here and weaker here.

We want to see an ADX reading above 20 but also with a nice strong slope towards the upside so we can capture significant moves like this one over here in stage one.

This one over here, this is crude oil, again notice in section one, stage on, we had the ADX indicator above the 20 mark but of course it wasn't a steep slope. In section two, oil had fallen quite sharply but with a steep ADX reading, so that was a good trade there and section three, as you can see, oil has been falling again quite sharply with a nice steep rising slope on the ADX indicator. So as you can see, this is quite a nice tool to use if you're looking to trend trade.

Now the idea is to wait for the ADX to rise above 20 and then if it is below 20, then the market may be range bound, or in other words, trading sideways. Always use stop loss orders to protect capital. As always, we don't know if these indicators are going to work 100 percent, but they're useful as a tool.

I hope this has been useful. I look forward to seeing you in the next lesson. This is Sandy Jadeja. Have a great trading week.