Whenever someone starts their trading journey, they open a chart, and clouds of disbelief surround them.
They ask, “What the hell is going on here”?
Those who are in this for the long run know the importance of these charts. The charts illustrate one of the most important aspects of the market; technical analysis.
In this guide, we are going to tell the nitty-gritty of technical market analysis. If you are a beginner reading this, then this post can help you a lot.
What is technical analysis?
The framework through which traders evaluate price movement is known as technical analysis.
According to the notion, a person can use historical price movements to forecast present trading conditions and probable price movement.
A technical analyst is someone who employs technical analysis. Technical traders are traders who employ technical analysis.
The following principles explain technical analysis:
1. It’s all in the charts
The majority of technical traders believe that “it’s all in the charts!”
Technical analysts believe that everything that has happened, is happening, or could happen to any pair’s price has already been factored in. So in theory, we could say that there is no unknown information to the price and that we can make fairly accurate predictions of potential future directions simply by looking at its past and present behaviour.
2. Trend is your friend
A “trend” is the overall direction in which something is moving, and we can typically detect it when the noise generated by short-term volatility is removed.
If you look at the chart of any forex pair daily timeframe rather than an hourly one, you will find that it has been trending either up or down for a long time.
Technical analysts use this well-known behaviour to predict when these trends will occur, how long they will stay, and if they will reverse, all to identify the best entry and exit positions.
3. History tends to repeat itself
The expression “history repeats itself” can be translated as “if it happened once, it would almost certainly happen again.” Technical analysts are aware that investors have a tendency to repeat their behaviour throughout history and that at some important times, they react in the same way they did previously.
Tools for technical market analysis
To get started with technical analysis, we must first learn the language of charts and the commonly employed tools when looking at them.
1. Charts
Forex charts can be used to depict the behaviour or performance of a currency over time. Traders frequently utilise forex charts to acquire a better knowledge of historical performance; this information is then used to help traders make smarter trading decisions in the future.
Line, bar, and candlestick charts are the three types of charts.
a. Line chart
A line chart is essentially a straight line drawn from one closing price to the next. Thus, it can provide traders with a general sense of how a currency pair has performed over a certain timeframe.
b. Bar chart
A bar forex chart provides more information to traders than a line chart. This is because they display closing prices while also providing low and high indicators of opening pricing.
c. Candlestick charts
The candlestick chart, which has Japanese origins, is likely the most useful of the three primary chart types.
It is critical to understand the basic candle structure while interpreting a candlestick chart. For example, each candlestick indicates a period, which might range from one minute to a year.
When reading forex charts, it is critical to be aware of some of the most common forex chart patterns and trends that you may see and what they may signal in terms of future prices. These include reversal and continuation trends.
In a reversal trend, the price action changes its course, while in a continuation trend, the price moves in the same direction.
2. Support and resistance
Support is a level at which prices can begin to rise again (as they have done so in the past). On the other hand, resistance is a level below which prices can fall (as they have done so in the past).
The principles of support and resistance are intertwined with the third principle of technical analysis, which asserts that it may happen again if something has happened before.
3. Trends
As discussed in the second principle of technical analysis, prices do not merely swing sporadically; they have an overall direction over long periods, which we term a trend.
The market can only move in three directions: up, sideways, or down.
When the price rises, it indicates a bullish trend; when the price falls, it indicates a bearish trend.
Does technical analysis work?
The fact that traders from all around the world view the same charts is the cornerstone of why technical analysis works.
Sure, specific levels or daily candlesticks may fluctuate slightly based on your broker’s feed, but a GBP/USD daily chart is the same whether you use Broker “A” in the US or Broker “B” UK.
Simply put, if you spot a clear support level on a daily chart, chances are the majority of traders across the world are looking at the same level as well. As a result, when the market reaches that support level, demand rises, pushing the market upward.
This is referred to as crowd psychology. It alludes to the individual’s loss of responsibility and the onset of universal behaviour, both of which increase the size of the crowd.
In other words, traders begin to think and act in response to what other traders perceive and do, leading a market to rise or collapse.
Because of this, more obvious technical analysis is often more effective.
Bottom line
Don’t treat technical analysis as if it is a magical herb that provides mystical answers.
Setting aside some time to learn how technical analysis works is one of the best things you can do.
Also, remember that technical and fundamental analysis, go hand in hand. One is not more effective than the other.