Range trading helps us make a profit when the market is range-bound (not trending). Range trading becomes effective when the price bounces between highs & lows.
Even when the market is not trending, traders can still make profits. The consistent highs and lows for a specific period of time lead to range-bound trading. The price resistance takes place at the top of a security’s trading range, and the price support takes place at the bottom of the security’s trading range.
While it may come as a surprise and make you wonder if you can actually make a profit, range trading is a strategy you might want to take cognizance of while investing in the stock market.
Range trading is all about trading within a specific narrow range. Spotting a range phase in the market is easy when it has already formed — even new traders can do it. The real challenge is to spot it when it is forming.
In this article, we talk about range trading strategy in detail.
What is range trading?
Range trading is a trading strategy that helps traders buy at support & sell at resistance.
A sideways or ranging market lacks a definitive direction (up or down). Still, it runs horizontally through short movements up and down, portraying indecisive market sentiments.
It lacks any long-term trend. Range traders look for overbought assets (support areas) and oversold (resistance areas). These are the top and bottom of the range, respectively. Traders buy assets at support and sell ranges in resistance.
The price action rolls not in one specific direction but runs side-by-side between consistent highs and lows until a breakout occurs.
For instance, if you see an asset trading at Rs 40 and think it will rise to Rs 45, you will trade in the range 40-45 for some time until the range is no longer present. Range trading strategy is a forex strategy but can be used in stocks too.
The range trading strategy will fail if the market shows any trends. The strategy can be implemented any time — for minutes, months, or days.
There are typically four types of ranges — a rectangular, diagonal, continuation, and irregular ranges.
How to Leverage Trading Ranges?
Now you know what range trading and its different types are. Here’s how you can utilize range trading strategies to your advantage:
Identify a suitable market.
To trade, you should first identify the ranging or non-trending markets. This step seems intuitive and obvious but is ignored by traders often.
Traders face quite a few losses during the identification of a ranging market. Conversely, in a trending market, a sideways market comprises brief periods of strong price action in one direction that will often reverse shortly.
You can use technical analysis indicators to identify a range trading market. Moving averages and Average Directional Index (ADX) are suitable for this purpose, along with some online screeners. With the ADX indicator, you would know a market is sideways when the index is below 20 (scale 1-100).
Define the Range Trade Area
Once you know that the identified market is in (or is entering) a consolidation phase, you should establish the limits or the range is the phase itself. These phases show a well-defined upper and lower range. Either side will mark them to side support and resistance levels or angular trend lines and channels.
Defining the trading range area is like marking your battlefield, meaning how much of a playing field you possess.
The asset should have recovered twice from the support band and retreated twice from the resistance band.
A ranging phase that is too narrow is not worth trading at all. To trade with caution, you need wide enough ranges. You have more space to carry out and manage your trade in a wider range.
Trading in a narrow range brings trouble as support and resistance levels may be closely grouped. In such cases, you cannot expect much from price movements. It would help if you defined the range to get a clear perspective of the bigger picture.
When you know the upper and lower limits of the range, then you can easily watch any potential breakouts on either side. This helps when the range is defined by angular trend lines (in a slowly constricting wedge pattern), due to which breakout chances increase.
Executing the trade
As you have the range trade defined, you can start trading sideways. Once you identify the support and resistance bands, place an order at the support level and place a stop-loss order outside the range or at the resistance price level. By placing both orders, your range trade is completed.
You can also take assistance from the ultimate oscillator, stochastics oscillator, RSI oscillator, and others. You will have tighter control on the trading phase and the exit and enter phases with their use.
For example, in the chart below, you can see the overbought and oversold areas below 40 and above 80, respectively. Range traders have to buy at overbought and sell at oversold phases.
Support and resistance
You have to look for price levels that hold as support or resistance in the chart. The phase where the price level stops falling any further is the support level, and the phase where the price level does not go any higher is the resistance level.
The demand at the support point is high, and buyers tend to buy during support and avoid selling. When the demand falls at resistance, sellers sell at resistance, and buyers become unwilling to buy.
This is a basic scenario of range/sideways trading. When identifying the potential support and resistance areas, the traders usually focus on larger regions. This is the top and bottom end of the ranging market itself.
In a weak market with no visible momentum, even the minor areas of support and resistance can make the price levels hold up. It would help to consider all the trouble areas in your trade management phase, even minor ones.
The price action is unpredictable as usual. Still, the management and planning can eliminate the ambiguity of the market.
One of the other important things in a ranging market is the mid-range of the area. The price moves back and forth from the sideways range, and the mid-range acts as a pivot.
Price is bullish above the mid-range and bearish below it. The lower range will act as resistance and the above one as support.
Breakouts and breakdowns
After trading in a range for a while, the market will lose the sideways pattern. It is when either a breakout or a breakdown occurs in the market. When the price level rises above the resistance, it is called breakout, and when the price level falls below the support, it is called breakdown.
After a breakout or a breakdown, the market might start to show a trend slowly, and this is when you know you can not implement any range trading strategy. Technical analysis indicators can help you find breakouts and breakdowns even before they sometimes start. You can use the Average True Range (ATR) to identify breakouts and breakdowns. Even RSI and MACD are beneficial for this matter.
Advantages vs disadvantages of Range Trading Strategies
When the trading range occurs, multiple sets of advantages and disadvantages are on the cards. The market movement can irk the support price and might start losing money rapidly or gain some.
Pros of range trading
It requires smaller funds, and traders who are relatively new to trading find it useful. It involves less risk because the money can be taken out shortly from the market.
Traders can make profits even when there is no definitive trend in the market.
The trading range is familiar, and traders usually know what or something will happen over here, unlike trend trading, where they have no idea of the highs or lows and when a breakout or breakdown will occur. The trending market is uncertain, and the ranging market shows certainty.
In range trading, things seem to be organized as there are vivid points of entering the market and exiting it. While in trend trading, traders have no idea if they are dealing with a small issue or a whole reversal. Range traders create their boundaries on their charts, preventing them from making major losses and ensuring profits.
You can hit your target quickly and exit the market in range trading.
Besides crypto and stocks, range trading can be used in ETFs, bonds, and closed-end funds. It is not bound to specific hours, hence can be implemented anywhere.
Cons of range trading
Every time you trade, you have to pay a commission to your broker, and range trading requires frequent investments. So, if you think you can make huge profits by investing in small proportions, it is a bit misleading. Your broker will eat up a significant portion of your earnings.
You have to make quick decisions. Identifying a ranging market is no joke and requires time and effort for even experienced investors. Spotting those entry and exit points and keeping an eye all the time over the finally discovered range is a tedious task. Every point counts, and you can not miss out on them. Because if you do, you might lose some profits.
Identifying the breakouts and breakdowns even before they start is a task of highly experienced traders, and new ones might miss them frequently. Range trading requires a high level of concentration, patience, and rapid decision-making habits.
What is a trading range day?
The daily range day trading strategy keeps the everyday movements of the market. With volatile stocks, this strategy is beneficial, and it can be implemented in any stock or currency pair which is active.
Should you trade ranges?
Trading in ranges requires minor funds, and you can afford that. This makes range trading alluring to beginners. However, it is not that easy to trade ranges.
We discussed their cons, and you can see if it fits you. The market has open arms for both trend trading and range trading.
When you are trading trends, the main thing that will give you success is getting in early. While in ranges, there is no such thing. Trading ranges is beneficial given that you know the risks associated with it and their management.
What is the extreme trading range?
The extreme trading range of the market is the resistance level or the oversold level. At this phase, buyers avoid buying, and sellers sell. This is the phase after which if the price level rises, then a breakout occurs, and it reaches the off-market phase of the chart.
What is a 52-week range in stock?
This helps to identify the volatility of a stock over a period of 52-weeks. The higher and lower prices of the commodity are noted during this time frame to help traders understand the behavior of the stock.
To understand trading opportunities, technical analysts use this 52-week range stock data along with trend observations and other readings.