Technical Analysis for the Trading Professional
Technical analysis is the study of past price and volume data in order to predict future trends. The Dow Theory is the foundation of all technical analysis. Fundamental analysis helps traders select what to buy. Technical analysis helps them decide when to buy it. Technical analysis is commonly used with stocks, ETFs (exchange traded funds) and commodities/futures.
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Charts
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Charts are graphic representations of price and volume data. Charts can be intraday, daily, weekly and monthly. Most charts these days are computerized and interactive, allowing technicians to display, in addition to price and volume, any visual data or indicators that can help them with the analysis. Charts can be line, bar OHLC (open, close, high, low), P&F (point and figure) or candlestick.
Chart Analysis
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Each type of chart reflects a different method of analysis. Each method has its own way of describing and analyzing patterns. A typical misconception about technical analysis is that a technician can take a look at a chart at any time and predict a stock’s future behavior. In reality, a stock spends most of the time building a pattern. It’s when a recognizable pattern is completed that a chartist can tell, with a degree of certainty, what the next move is likely to be.
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Probabilities vs. Possibilities
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Technical analysis is not fail proof because nothing is ever 100 percent certain in the stock market. A chart can tell a trader what is most likely to happen in a particular situation, whether the downside or the upside, and should be given the benefit of the doubt.
Predictive Value
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Charts have predictive value because they reflect investor actions in the market that are based on human nature, which does not change. So even if the participants change over time, their collective behavior does not, and this results in recurring patterns.
Using Technical Analysis
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There are many good books on technical analysis and multiple methods and approaches. Charting software comes with more bells and whistles than any trader can use. The key is to combine the instrument with the charting method, the time frame (intraday, daily, weekly) and the most effective indicators. A sure recipe for disaster is to try to combine various methods or use them inconsistently. Don't rely on too many indicators.
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References
- Photo Credit pen showing diagram on financial report/magazine image by Anton Gvozdikov from Fotolia.com
