Candlestick charts and other areas of quantum physics …
I’m not a fan of jargon and technical lingo, so the phrase “multiple timeframe analysis” grates with me.
It sounds like something that you’d need a Large Hadron Collider to undertake.
When what it really means is: looking at more than one chart.
But that just doesn’t sound as clever, does it?
Multiple timeframe analysis may not be as complex as it sounds, but that doesn’t make it simple – there are a lot of places that traders can fall down when they try to look at more and more charts.
Here, I’ll try to look at what multiple timeframe analysis is … how to do it right … and how to avoid the common pitfalls …
What is multiple timeframe analysis?
Any instrument you’re trading, whether it’s shares in Facebook, the FTSE, or the EUR against the USDollar, can be viewed on different candlestick charts, whether it’s a 1-minute chart, a 5-minute chart, an hourly chart, or a weekly chart. All these different charts will give information about exactly the same price variations over time, yet they can all look very different.
When the 5-minute chart is heading downward … the hourly chart could show a steady up-trend … and the weekly charts might show range-bound prices …
This conflict between different timeframes leads to conflicting signals, and can give traders a real headache. A common way around this is to stick to one chart, and avoid looking at the others.
While this philosophy may sound like the trading equivalent of sticking your fingers in your ears and singing “La, la, la, I can’t hear you!” – it’s not without its merits.
By sticking to one timeframe, you can become an expert in that frame, learning what sort of range of movement to expect within the timescale of your trade. It’s very important to match the timeframe you’re trading to your trading style – if you’re looking for big moves of 100+ pips, then you won’t find these on a 5-minute chart. Instead, you’ll need to be looking at hourlies or dailies. If you’re trying to scalp 5–10 points, on the other hand, an hourly chart won’t give you the kind of accuracy that you need.
So, even if you are using multiple timeframes as part of your analysis, it’s important to have a key timeframe that matches your trading style – this will give you your signals. (Extra timeframes can be added to your analysis later – more on this in a moment.)
While shorter term charts show us all the twists and turns of the price in full detail, they can also give more false signals, due to the level of trading “noise” that they pick up.
A longer term chart, while a more blunt instrument, will generally give fewer but stronger signals.
The general wisdom in trading is that traders following longer term trades will make more money, but it’s also worth remembering that longer term trades require wider stop losses, and therefore deeper pockets, so they aren’t suited to all traders.
Plus, many traders simply love the cut and thrust of intraday trading, and just aren’t prepared to give that up.
So, if different timeframes give such different information, and are suited to different trading styles – how and why should we try to combine them in multiple timeframe analysis?
The benefits of multiple time frame analysis
If I walk into a room where my kids are watching telly, I know that the first words from my lips will be: “You’re too close to the screen”, as invariably one of them will have crept from the sofa towards the box and have his face almost pressed up against it.
It must be something about lure of flashing lights.
Traders do exactly the same thing with their candlestick charts.
We end up with our faces so close to the “action” (let’s face it – there’s not much fun in staring a 4-hour chart!) that we lose sight of the bigger picture.
The problem with this is that we can end up in duff trades, such as betting against an obvious trend, or selling just as we’re about to bounce off a long-term support level.
Shortening the timeframe
Those of you who follow my Bread and Butter Trader technique will know that I use multiple timeframes, picking up the more reliable signals on a long-term chart, and pinpointing an accurate entry level on a short-term chart. This helps me to get fast but reliable entries on price reversals.
Switching to shorter timeframes is also a great place to look for key candlestick patterns – like a reversal candle just at the point you’ve had a reversal signal on a longer timeframe. (Please download my free price action guide if you’d like more info on this.)
Lengthening the timeframe
But multiple timeframe analysis is also invaluable on trend-following strategies, where knowing that you’re trading in the direction of a long-term as well as a short-term trend gives you safer trades, that are more likely to run further. Here’s an example, showing two signals popping up on a 5-minute chart …
According to the trading strategy, these two signals look just as good as each other. That is, until I look at the bigger picture …
The BUY signal is clearly in the same direction as the long-term trend (the indicator on this is a simple Moving Average, while the SELL signal goes against that long-term trend.
Now, look back at the first, 5-minute chart, and note the size of the move that I can take advantage of with the BUY trade, compared to the size with the SELL trade.
It’s clearly far more profitable to be trading in the direction of the long-term trend. And a quick glance at a longer term chart is all it takes to spot this advantage.
So, if we have a key timeframe that gives us our signals, we can then add longer timeframes to our analysis to give information on the strength of that signal. And shorter timeframes can be added to give us more accurate entry and exit levels.