In Part 19, we introduced the idea of Heikin Ashi. In part 20, we go off on a more extreme tangent! In terms of Technical Analysis applications, Renko Charts, at first glance, could appear to be as ‘way out’ as it gets – the work of some Technical Analysis boffin with too much time on their hands! In fact, Renko charts aren’t some new tool created by the technological revolution, but have their roots firmly embedded in eighteenth century Japan. They were originally applied to trade Rice and formed the building blocks for a robust trading strategy.
What are Renko charts?
These charts were named from the Japanese word for bricks, “Renga”. This type of chart completely ignores time and focuses only on price changes that meet a minimum requirement. Renko charts use price “bricks” that represent a fixed price move. They move up or down in 45 degree lines with one brick per vertical column. Because of this unique approach to charting, it creates some great analytical applications for trading.
Example: New York Cocoa (Charts: TradingView)
Setting the brick size and chart:
Brick sizes are predetermined by the analyst/trader and are a very discretionary process. Familiarity with the instrument you are looking at can help. The bricks are given a fixed value that, like Point and Figure charts, will filter out smaller price movements, in the process leaving the user a clearer picture of the asset’s trend. Because Renko ignores time, bricks will only change once the preset criteria is met. For example, if the brick value is set to 100 points, then a move of 100 points is needed to draw another brick. Anything less would be ignored and the chart would remain the same.
The chart: In practice, this is normally set up off the close or a range e.g. high / low. The Close gives one data point and less volatility to the chart, compared to a ‘range of data’ approach which increases the fluctuations in the bricks and therefore results in more bricks. One way of countering this volatility could be to take the High/Low and divide by 2. Which one to use? It’s down to your own personal preference and trading strategy/approach.
Brick size: This can be a fixed number e.g 20, 50, 100 – whatever you think is appropriate, but a more objective method that takes into account the volatility of the asset being traded, is to use ATR (Average True Range). How? Calculate the ATR from a ‘normal’ bar / candlestick chart and input this figure into the set up of the Renko chart. Depending on how many trading signals you would like, you can adjust the sensitivity of the ATR: more signals ATR/ 2 or /4, less signals * ATR by 2. Play around with the ATR number for the asset you are trading.
Difference in results: A WTI Crude Oil Renko chart (Charts: TradingView) : On the left a fixed $2 brick approach and on the right an ATR/4 approach:
Trading Renko charts
Renko can be a great tool to trade just by itself, for filtering out the ‘noise’ of the market, or as an extremely powerful tool for spotting support and resistance levels and trends.
Trade signals are generated when the direction of the trend changes and the bricks alternate colours. For example, a trader will sell an underlying asset when a red brick (bearish) is placed at the end of series of climbing black bricks (bullish). Since this type of chart was designed as a way to follow the general price trend of an asset, there can often be false signals where the colour of the bricks changes too early, producing a whip-saw effect.
Example: (Charts: TradingView) using WTI Crude Oil with 30 period ATR on close:
With the advancement in IT software, you can enhance your charts with other Technical Analysis tools, to create some highly effective trading strategies. Below, is a WTI Renko chart with a 10 period moving average, Bollinger bands and Fibonacci:
Further reading and learning:
If you are interested in learning more about Renko charts then the following reading may help:
Beyond Candlesticks: New Japanese Charting Techniques Revealed, Steve Nison, (Wiley Finance) Hardcover – 8 Dec 1994
Renko charts are also excellent for trade management – for the use of stops, trailing stops and finding key levels of support and resistance that can aid your decision making around your trading.
Renko charts are now available to all through almost all of today’s charting packages. They are easy to use and understand and, thanks to today’s technology, easy to apply. This ancient and highly effective trading approach should not be ignored and should be incorporated into your trading plan as the building blocks for a robust trading strategy.
Next time: Technical Analysis (Part 21): Japanese Charting – Line Break