What is technical analysis?
Technical analysis (TA) is the study on charts of price movement of financial products. It is based on the assumption that future is predictable and evolved from past, by studying the historical charts, people are able to forecast what is the following movement of prices. The analysis tools used are, Pattern, Statistics, Fibonacci Ratio, just to name a few. TA can be used widely on Stock Markets, Futures and Commodities, Forex, Property Markets, Interest Rate, Bonds, Options, Spreads of two products. In fact, any group behavior that could be charted may be applied TA methods.
What can we do with technical analysis?
Technical analysis can help traders to:
- Identify Trend
- Spot Bottom and Top
- Confirm Reversal Point
- Forecast Price target
- Estimate Duration of the trend
Is it difficult to learn technical analysis?
Nothing is difficult so long as you spend enough time and willing to master it. In fact, you do not need high level education before learning TA. Primary 5 mathematical knowledge will be sufficient enough for application of TA, unless you want to do some research on TA.
Is it for sure to make money after learning TA?
So far in the world, there is no such magic method to guarantee the investment return, but by mastering TA, you will be able to view the market more in a correct way, it is also a tool to limit your impulsive buying, and help you establish objective trading style.
According to Random Walk Theory, trading is like gambling. So is it true that there isn't a need to learn TA to forecast the market?
There is indeed such a belief that trading is gambling, that is because most of the people jump into market without a sound knowledge and understanding of the market. In most of the cases, they are at the mercy of market fluctuations, not knowing what the market monster is doing. The random profit and loss make them feel it is like gambling. In fact, there is essential difference between trading and gambling, the former is controllable behavior based on predictable market price, while the latter is totally at the mercy of probability and most of the time, emotionally involved.
I am trading stocks, can TA be used on other financial products, such as Futures?
As mentioned before, it could almost be applied to any financial products, so long as it is group behavior.
What are the major schools of TA ?
There are many schools of TA, the following are quite popularly studied:
- Patterns, like Triangles, Double Tops, Head and Shoulders, etc
- Support and Resistance, Trend lines
- Japanese Candlesticks
- Elliott Wave Theory
- Indictors, like RSI, MACD, OBV, Momentum, DMI, etc.
- Exotic method, like Chinese Fengshui, Astrology
What is candlesticks technique?
It is pattern analysis in nature. Invented in Japan, it is the study of candles pattern to forecast the price movement. A candlestick is composed of 4 prices of a specific duration, Open, High, Low and Close. When close price is above open price, it is called a white candle and is normally bullish, when close is below open, it is called black, and normally bearish. However, the color may vary according to the software settings, some software is equipped with user setting functions, that user may adjust the color according to their own liking.
What is the usage of Candlesticks and its weakness?
It is mainly used to spot reversal, and immediate price action following the current period, say today market closes with white candle, it could signal next day, market may continue to move higher, just an example. The weakness is, it is too sensitive, thus making quite a lot false signal. When applying it, traders need to combine other techniques to filter the false signals.
What is moving averages theory?
It is a trending signal by application of statistical concepts of average, weighted average and exponential averages. The assumption is once price is above the average price of a certain period, the up trend is likely to maintain, while vice verse.
What is the strength and weakness of Moving Averages?
It is good to be a trending signal, say in stock market, some shares run up or drop quite crazily, other signals like technical indicators may be useless during the process, as they are easily to go to overbought or oversold. The weakness is that it is lagging indicator, only when market moves a lot, signal could then be spotted. Another weakness of it is when consolidating, MA becomes almost useless, and normally generating more false signals.
I don’t know how to adjust the parameters, say how many days, any advice?
This is also another weakness of MA, hard to set parameters, normal questions facing TA guys is Shall I use 10 days moving average or 13 days, or other days? Unfortunately , there is no definite answer, traders are encouraged to back test the moving averages parameters and see which duration is the most suitable.
What is Pattern theory?
Simply put it, patterns are recognizable shapes formed on the price chart. They are the most important and classical technical analysis tools. Typical patterns are Triangle, Head and Shoulders, Double Tops, Double Bottoms, Flags, etc. Patterns normally signal continuation or reversal of the trend. They can be applied on trend forecasting, which goes according to the breakout point, and price forecasting, which goes according to the magnitude of the patterns.
What is the strength and weakness of Pattern Theory?
Strengths of patterns theory are: easy to recognize, repetitive, valuable in price target forecasting; weaknesses are: normally there is pullback to the breakout point which makes it hard to determine if the pattern still works, a minor percentage of the patterns could fail to reach the measured target, or simply fail before a good development.
What is Dow theory?
This is the oldest theory of the TA, it is basically a trend study technique. You can read up further on this topic here
What are indicators?
Indicators are basically the study on price movement, by application of a certain mathematical concepts, especially those from statistics. This type of analysis tool is trying to figure out the principles and regularities behind market move. Hundreds of indicators have been worked by enthusiastic mathematicians, and traders, investors normally are lost when entering the indicators world, they are strongly advised to choose one or two indicators they are familiar with and take them for reference when combining with other analysis tools. You can read up further on this topic here
What is the strength and weakness of Indicators?
They are sensitive to price movement, sometimes, are very good reference at reversal or turning point. However, as technician, we believe market behavior is in essence human behavior which could not be formulated by statistical formula, every indicator has a unique philosophy behind it, be it cycle, trending, oscillating assumption or others, which has a fatal weakness that market is not statistical in nature, it is fractal and chaotic.
Are adjustment of parameters of indicators very important?
The adjustment of parameters will lead to the sensitivity of indicator, it is not definite if after the adjustment indication becomes more effective.
What is Fibonacci Number?
It is a series of number discovered by Italian mathematician Fibonacci, the sequence starts with 0 and 1, each new number in the series is simply the sum of the two before it. 0, 1, 1, 2, 3, 5, 8, 13, 21, 34, 55, 89, 144, . . . The ratio of each successive pair of numbers in the series approximates phi (1.618. . .) , which is also called the golden ratio, as 5 divided by 3 is 1.666..., and 8 divided by 5 is 1.60. Golden ratio could be found almost everywhere in the universe, from distance of galactic spiral, to the storms and ocean waves structure, from proportion of DNA in biology to the stock market retracement ratio. As financial market could be ultimately attributed to human emotion and psychology, which are in turn determined by DNA mechanism and brain cell structure, the Fibo number and golden ratio can no wonder work well in price and time forecasting. You can read more on Fibo Number and Phi here.
You can read more about Technical Analysis here