Understanding Technical Analysis

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Understanding Technical Analysis

The forex market is the largest in the world. It is extremely diverse and it has very liquid assets. Many traders seek to enter the market for a profit.

Retail traders use many strategies to trade on the forex market. As a discipline, technical analysis is a technique used for short term income generation. It used data from the past to deduce asset or stock strengths and weaknesses.

Technical analysts are concerned with movements of prices and volume in the market. They analyse changes and patterns in demand and supply to deduce how the market will be affected. The main assumption of technical analysis is that past data determine how market prices will move. Let’s take a closer look at what technical analysis is.

What Is Technical Analysis

This is a unique tool that depends on historical market data, to predict price movements of assets on the trading market. It is a discipline that requires a thorough study of price movements.

Most of the data used in technical analysis are historical. Although current data may be used sometimes. This data is analyzed to predict shifts and movements of prices in the future. A technical analyst spends a lot of time evaluating and understand charts to make smart investments. Technical analysts are also called technical traders.

The theory of technical analysis is based on the theory that all market information is indicated in the prices. This, therefore, provides the means for indicating the prices in the future. A technical analyst will look for patterns in charts to determine price movements. The main focus of technical analysis is on the probability of price movements rather than predictions of how they will shift. This means that investors will only opt for assets with the highest chance of bringing in a profit.

Fundamentals Of Technical Analysis

Decision making in technical analysis is majorly based on trends. Trends are the flow of the prices. They show the direction of prices of assets or stocks in a market. Traders identify trends using trendlines. There are only three ways price movements can flow in a market;

  1. Up – They are characterized by upward movements resulting in an upward slope. They usually show higher highs and higher lows.
  2. Down – They are characterised by downward movements that result in a downward slope. They tend to have lower highs and lower lows.
  3. Sideways – This is when price movements zigzag in a relatively straight line. Highs and lows are more or less balanced out. They seem static or undefined in comparison to upward and downward trends.

These movements typically move in a zigzag pattern. This means that there are only two ways the price actions will generally flow.

  • Range- this is when price movements zigzag sideways.
  • Trends- this is when price movements zigzag upward or downward.

Downward zigzag movements are also called downtrends or bear trends.

Upward movements are also known as up trends or bull trends.

Technical Indicators

The basis of technical analysis is intensive study and research of patterns and signals. A technical indicator gives a technical analyst the tools to gain more understanding of price trends. They work best when paired with risk management mechanisms.

Technical indicators are calculations that are plotted on charts as lines. These price charts provide a way for traders to identify signals and trends in the market.

Here are some common indicators that retail traders use.

  • Moving averages
  • Stochastic oscillators
  • Moving average convergence divergence
  • Bollinger bands
  • Momentum Indicators
  • Relative strength index (RSI)

All these indicators have their benefits and demerits. When choosing an indicator consider your knowledge on the same. Only when you have enough information, will you be successful in implementing the indicator into your strategy.

Wrapping Up

Technical analysis is about calculations and implementing good strategies. Traders should be keen to study charts showing price movements. This will help them understand when to enter or exit a market.

Analysts should also consider using appropriate indicators when trading. These will form the basis of how they analyse price movements.

Technical analysis is a common strategy applied by retail traders. It is a useful tool for those who are seeking to trade in the short term. When strategies are understood and implemented, technical analysis can be very lucrative.