Confluence: Meaning, Overview, Application

What Is Confluence?

Confluence is the combination of multiple strategies and ideas into one complete strategy. Confluence occurs when two or more separate ideas or strategies are used together to form a comprehensive investment strategy that is in line with an investor's risk profile and goals.

This term can also be used when employing technical analysis, by looking at charts with multiple indicators or overlays and developing levels where different indicators are combined to help identify possible opportunities.

Understanding Confluence

Confluence stems from its underlying geographic definition which is regarded as the point where multiple flowing bodies of water join together to merge into one.

Investment advisers can use confluence to provide their investment management services for their clients from several sources of investment.

Technical analysts are known to use the concept of confluence to identify and support technical trading through the use of multiple signals or indicators comprehensively.

Confluence and Investment Advisers

Confluence allows an investment adviser to combine multiple investment strategies into one portfolio that holistically represents the risk profile and goals of a client. Portfolio confluence can be achieved by investing in multiple vehicles or managed accounts.

For example, an investment adviser with an aggressive investment client may identify a 20/80 portfolio allocation that requires investing 20% of the portfolio in a risk-averse fixed income component while investing 80% in a high growth equities component. The investment adviser may invest 20% of the portfolio in a low-risk bond mutual fund while investing the other 80% in a managed account with a high growth equities strategy.

The combination of these two different strategies into a single portfolio that meets the client’s risk profile represents the use of confluence to achieve a comprehensive result.

In a more complex scenario, the investment adviser may choose to invest only 40% of the equity portion of the portfolio in a managed account while managing 40% on their own. This confluence of investing components allows the investment adviser to rely on the performance of the managed account strategy while also managing 40% of the equity portion of the portfolio based on their own individual discretion.

Confluence and Technical Analysis

Technical analysts rely heavily on confluence to support their trading decisions. In technical analysis, confluence typically requires several indications of a buy and sell signal combined together to affirm a trade decision.

One of the most common points in technical charting where a confluence of indicators is used to determine a signal is at a potential reversal. Reversals are commonly known to occur at resistance and support levels drawn on a technical chart. A price approaching a particular resistance or support line has the potential to reverse or continuing pushing through the trendline, which can send mixed signals. Thus, traders will often watch for several indicators occurring simultaneously or within a short-term time frame to confirm the trend through confluence.