When it comes to price action trading, there are few concepts that are more important to understand than market structure. In this blog post, we’re going to break down the basics of market structure and offer you some helpful tips and tricks that can fast-track your understanding of this fascinating concept. Let’s jump in.
The first, and arguably most important market structure concept to understand is the idea of trend, and there really are only three things that the price can do as it relates to trend.
Price can move in an uptrend, meaning higher highs and higher lows are being made. Price can move in a downtrend, meaning lower highs and lower lows are being made, and price can move sideways. Sideways price action represents periods of either accumulation or distribution.
Accumulation refers to the process of gradually acquiring a significant position in a particular asset. In uptrends, accumulation appears as sideways price action that resolves in a continuation of the upward trend. In downtrends, it appears as sideways price action that results in a reversal of the trend.
Distribution refers to the process of selling a significant position in a particular asset. In downtrends, distribution appears as sideways price action that resolves in a continuation of the downward trend. In uptrends, it appears as sideways price action that results in a reversal of the trend.
As simple as it seems, identifying trend direction can be quite difficult and this is mainly due to the fact that the underlying trend of an asset can vary across time frames.
In this example, we see that the price is in a uptrend on the 15-minute, an downtrend on the 1hr, and mostly going sideways on the daily. Pretty confusing right?
Due to this confusion, it’s advisable to start your trend analysis with a top-down approach; first identifying the trend on a high time frame (like the daily or weekly), and then working your way down to the time frame you’re trading.In the strongest trends, there will be alignment across timeframes. Meaning each time frame will be in an uptrend or a downtrend. TrendSpider’s smart checklist can be configured to easily identify these conditions, but timeframe continuity like this is not always common. More often than not, there will be variance in trend across time frames, and that’s why it’s imperative to understand where price is relative to the current trend.
If you’re having trouble defining the trend you’re in, try utilizing the Zig Zag indicator. This indicator automatically identifies key pivot levels and plots them on the chart for you. On TrendSpider, the zig-zag indicator can also plot horizontal levels that extend from the five most recent pivots, and we can utilize this functionality to create basic market structure scans and alerts, but more on that later.
Now that we understand the very basics of how to identify the current trend, next, let’s talk about gauging expectations for where the price might be headed next.
Generally speaking, price is like a ball rolling downhill. It likes to continue in the direction that it’s going in, and as time frames increase, it takes greater and greater effort to reverse the price from its current direction.
Let’s look at an uptrend example first. If the price was previously in an uptrend and is now trading within the section of price action that created the most recent high and low, the expectation is that the price will eventually put in a higher low and make another new high. Because of this expectation, traders should be looking for levels of interest to take long-biased trades, but how do we find them?
Using Fibonacci Sequences
One way is with Fibonacci sequences. Using the Auto Fib tool, if you measure a fib sequence of the previous swing, you’ll want to look for where the price is relative to the levels contained within that fib sequence.
Is the price in the upper or lower half of the fib sequence? In strong trends where buyers are in full control, the price has a tendency to pull back less than in weaker trends. If the price pulls back to this middle area, between the .50 – .618 retracement line, and immediately bounces and makes a new high, that can tell you that the trend is quite strong.
If the price breaks down below that area, then it’s fair to assume that a test of the low is possible but since the price is still technically in an uptrend, the expectation would be for the previous low to hold, and a new higher low be made.
Using Fair Value Gaps and Order Blocks
If a fair value gap, order block, or a previously untested point of control is present near this low, these can be both powerful magnets for the price as well as low-risk places to enter long positions.
The same concepts are true in downtrends. Measure a fib sequence from the high to low of the previous swing and find where the price is relative to the fib levels. If the price has overshot the .50-.618 Fib levels, look for FVGs, Order Blocks, or untested points of control above the current price to consider short positions, and use the previous swing high as your stop loss.
How To Spot A Weakening Trend
In a strong trend, the price will respect these basics of higher highs and higher lows or lower highs and lower lows, but what happens when a trend is weakening?
In a weakening trend, cracks will begin to form by way of failures at new highs and lows. In some cases, these failures can appear as wicks through previous highs or lows that never materialize into the next proper leg higher or low.
Breaks Of Structure
In the ICT philosophy, this weakening of trend can lead to what’s called a ‘break of structure’. In an uptrend, a break of structure is visualized as a lower low being made, and in downtrends, it’s visualized as a higher high being made. These are the first signs that the trend is changing, but often, they do not represent the best times to take trades b/c they can lead to reversals in which the previous high or low is tested before the new trend officially takes hold.
Now that we know what to look for to spot both the direction of the trend as well as signs that the trend is changing, let’s circle back to that zig zag indicator and learn some quick ways to utilize it to find these key market structure setups.
Using Zig Zag To Scan For Market Structure Setups
The Zig Zag indicator can draw horizontal levels from the five most recent pivots. They’re labeled a, b, c, d, and e, in order from the most recent pivot, and each pivot can be defined uniquely in the scanner.
All traders on TrendSpider have access to several market structure scans, so let’s briefly look at what’s available.
Basic Uptrend and Downtrend
If you’d like to find stocks in basic uptrends or downtrends that are currently making new highs or lows, utilize the ‘Simple Uptrend New High’ and ‘Simple Downtrend New Low’ Scans.
Pullbacks and Bounces
If you’d like to find pullbacks or bounces within an uptrend or downtrend, respectively, use the ‘Simple Uptrend Pullback’ or ‘Simple Downtrend Pullback’ scans.
These scans can be further refined in the way that price is defined relative to previous pivot levels by using the ‘within range of’ definition.A helpful hint here is to also turn on your auto fib tool, as it will often draw a fib sequence on the most recent swing, which will provide you with an easy-to-read visual understanding of where the price is relative to that swing.
Break of Structure
Finally, zig zag can be used to identify scenarios where there’s been a break in structure by defining the pivots relative to one another and the price relative to the pivots.
If you’d like to find scenarios in which the price was previously in an uptrend and there’s been a break of structure to the downside, utilize the ‘Beginning Of Uptrend Reversal’ scanner. Users can utilize the ‘Beginning of Downtrend Reversal’ scanner to find scenarios in which a break of structure to the upside has occurred after a downtrend.
So, there you have it! A quick lesson on Market Structure basics, as well as some simple yet powerful scanners that you can begin employing today!