The term confluence trading refers to using multiple trading strategies or indicators in a complementary fashion.
A confluence trading strategy is a major part of successful technical analysis trading because very few trades are clearly identifiable using only one technical indicator.
Even complex composite indicators are almost always used in conjunction with other technical indicators.
Additional indicators can help to confirm a trade or add detail to the trade’s execution, such as the optimal target price and stop loss.
Traders of all backgrounds, from long-term forex traders to short-term traders in stocks, are using confluence trading on some level, even if they are not aware of it.
However, the best technical analysis traders are aware of how different technical indicators complement each other.
These traders are purposefully performing confluence trading by using different technical indicators together in different market situations to maximize their effectiveness.
Breaking Down Confluence Trading
The concept of confluence is of multiple items flowing together to create something that is more than the sum of its parts.
The essence of effective confluence trading is understanding the strengths and weaknesses of different technical indicators.
No two trades are ever the same, so each trade will have a different ideal combination of technical indicators to use.
In most cases, there will be one simple or composite technical indicator that a trader will use to set up a trade.
Confluence trading begins when the trader identifies the unique gaps in knowledge that this main indicator leaves in a specific trade.
The trader can then perform confluence trading by picking the other supplemental indicators that will fill the unique gaps in knowledge for each specific trade.
Confluence Trading and Fundamental Analysis
Many technical analysis traders also perform confluence trading by including fundamental analysis in their strategy.
These traders may scan stock tracking news feeds for relevant news and then perform technical analysis on a list of targets derived from their fundamental approach to find ideal trade signals.
Other traders may perform a brief fundamental analysis on a stock right before entering a trade to confirm that there is no relevant information that they are missing, causing false signals in their technical analysis.
Combining these two different analysis methods is a very common example of confluence trading.
Examples of Confluence Trading
There are an infinite number of combinations of technical analysis indicators that traders can use to make trading decisions.
However, it is important to understand the method behind confluence trading.
Once we understand the method behind confluence trading, we can apply it to every potential trade.
Example 1: Resistance and Momentum
Resistance and momentum indicators naturally complement each other.
Resistance levels are natural psychological levels that people use to navigate changing prices and as a source of trade setups.
A very common example of resistance levels used by traders is Fibonacci Levels.
Fibonacci Levels are often the site of either reversals back down to a more average historical price or a breakout where the old average price is left far behind.
However, a resistance indicator on its own does not offer much information about whether the reaction will be a breakout or a reversal at these key levels.
That is why we use a momentum indicator through confluence trading to supplement our resistance indicator.
If the momentum indicator suggests that the price is continuing to rapidly change in the same direction, then this indicates that the price will likely break out from the key level.
By contrast, a momentum indicator that shows the price change slowing into the key level indicates that this will likely be a point of reversal for the price.
Example 2: Trends and Volatility
Trend direction indicators are among the most popular technical analysis tools that traders use to search the financial markets for profitable trades.
Following the current market trend is a time-tested strategy, as long as you can get in at the bottom and get out before the top.
This is why many technical analysis traders use volatility indicators to supplement the use of their current trend indicators.
A trend direction indicator might show that a price trend is continuing higher than it has been, but a volatility indicator will help us delve deeper under the surface of the trend lines and price action.
If the volatility of a stock’s price action suddenly increases dramatically, that is a strong indication that the upward price trend will soon be ending.
While our trend indicator does not show us anything new, the supplemental volatility indicator shows us that the price action is hitting many new lows, even if the overall trend higher is the same.
Learning confluence trading until it is second nature should be the long-term goal of any serious technical trader.
To achieve this goal, traders need the best tools available to help them develop their skills and strategies.
The first thing a trader needs is a reliable research tool with a full suite of technical analysis indicators, so they can develop their analytical skills.
Our top recommendations for market research tools for retail traders are:
Next, a trader will need an advanced trading platform that supports complex technical analysis trading strategies.
Our top recommendation for advanced trading platforms for retail traders is:
Learning confluence trading is a long-term process, so it is critical that a technical analysis trader have cutting-edge journaling software so they can track their trades and learn from their past experiences.
Our top recommendations for trading journal software for retail traders are: