In our earlier posts on trends, we talked about three types of trends based on direction. We discussed the uptrend, downtrend, and the sideways trend. Further in another post, we discussed the short-term, medium-term, and long-term trends.
In this daily chart of UPL notice that the stock was in a sideways trend for long with average volumes throughout and was in the accumulation phase as shown by rectangle. Also, notice that during the late accumulative phase volume slightly picks up and so does the price.
In this post, you will learn about three phases of the trend.
A trend has three distinct phases as described by Charles Dow.
1) The Accumulation Phase
2) The Participation Phase
3) The Distribution Phase
The three phases are most evident in major trends or longer-term trends. Let's understand these phases in detail. We would also see it in charts to have a better understanding of these phases. So, let's begin.
The Accumulation phase-
The Accumulation phase begins after a prolonged downtrend when the price of a stock has fallen so much that it is seen as undervalued by fundamental analysts and maverick traders. These traders start to accumulate the stock in small bits and pieces so that the price of the stock is not inflated much in a short period.
This phase is quite difficult to spot in charts as the prices are in a sideways trend during this phase. Prices going sideways after a prolonged downtrend can be one clue that the accumulation phase has started but it is not a definite clue to that.
The volume remains average or slightly above average during this phase as those maverick traders don't put their orders in bulk, rather they buy in bits and pieces over several weeks to months. Above-average volumes during up days can be another clue that the accumulation has started post-downtrend.
In this daily chart of UPL notice that the stock was in a sideways trend for long with average volumes throughout and was in the accumulation phase as shown by rectangle. Also, notice that during the late accumulative phase volume slightly picks up and so does the price.
The Participation phase-
Once the stock is sufficiently accumulated slowly, a gap between demand and supply occurs which pushes the price towards the upside. This upside movement is then spotted by the technical analysts in their trading systems. This stimulates fresh and heavy buying by technical analysts marking the participation phase of the trend.
This phase is easier to spot in a chart. Often the start of this phase occurs after the price breaks out from the range with heavy volume. This phase is marked by substantial and swift up movement in price along with heavy volumes.
The Distribution Phase-
During the distribution phase, the price continues to move forward albeit with lesser momentum and supported by lesser volume. The same maverick traders and institutions who bought during the accumulation phase, now start to liquidate their positions again in bits and pieces so as to prevent prices from deflating suddenly.
This phase of the trend can be spotted in a chart by lessening momentum in a stock and contraction in volume while prices are still climbing up. This phase can be spotted by watching increased volume on the down days while the stock has been in an uptrend for a long time.
Being aware of the phase of a trend gives a trader useful insight into the probable movement of the stock price. This helps traders and investors spot profitable trading opportunities while also giving warning signals to exit the trade.
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