Does Technical Analysis Really Work in Trading?

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( — May 18, 2021) — More and more ambitious people come to try their luck in online trading. A portrait of an average trader is constantly changing but one thing remains the same – every beginner starts from the basics of price forecasting, laid in the last century. 

And these are two types of market analysis – technical and fundamental. The very first technical analysis principles were worked out by Charles Dow, one of the developers of the Dow Jones index. He identified three trends for price movement: upward, downward, and flat. 

Dow was the first to realize how important it is to track the trade volume in the market and created priceless forecasting techniques. Let us have a clearer picture of how technical analysis can help in trading.

What is technical analysis?

The technical analysis starts with the price chart and is inextricably linked to it. It helps traders determine when to buy or sell assets. 

And for this, they evaluate price movements. Technical analysis enables you to identify the most appropriate moment to enter the market in order to buy cheaper and sell at a higher price. In simple words, this method is an effort to forecast the market price.

The technical analysis divides the trading period into equal intervals – time frames. Thus, you can analyze the most significant parameters. 

These include the price at the time of the opening/closing of the period, minimum/maximum price, trade volumes. It allows you to detect a trend reversal point, suitable direction for entering the market at the current moment, or potential earning opportunities even during the flat period.

The main idea of technical analysis is to allow you to make money at the time of asset price growth and during periods when the price is too low.

Basic methods of technical analysis

Roughly, there are the following methods of technical analysis:

  • Graphical analysis. It is a classical live price chart that displays price fluctuations.
  • Indicator analysis. It is also called the mathematical method as price changes are predicted with the help of numerous technical indicators that use mathematical formulas.
  • Volume analysis. The interest of traders in a particular asset directly depends on the volume of transactions. Volume analysis indicators help determine the strength or weakness of the price trend.  
  • Candlestick analysis. Price fluctuations are predicted based on the movement of Japanese candlesticks on the chart. This method resembles graphical analysis but it is more detailed.

Advantages of technical analysis

In some cases, technical analysis is more efficient than fundamental analysis. The thing is that most traders and investors work with limited financial resources, and fundamental analysis does not define a clear time frame for making a deal and can freeze capital for an indefinite period. 

This way, a trader may miss good opportunities to enter the market and end up with a position that does not bring profits.

Technical analysis is based solely on objective criteria, and trade is entered only after a specific signal appears. Therefore, money is invested in a position only after all the necessary conditions are met. This approach ensures the rational use of capital.

How to use technical analysis?

Today traders have a whole set of tools that allow them to do technical analysis of Forex online: indicators built into the terminal, add-ons, programs for testing strategies, etc. 

First of all, you need to choose and learn how to apply one of the common methods of technical analysis:

  • Analysis of figures. It does not require the use of formulas, indicators and special settings. You just need to learn to interpret the chart.
  • Price levels (support/resistance levels, Fibonacci levels). This method is ideal for beginners. Though, its accuracy is not the best as the price often misses the levels, catching the trader’s stop-loss.
  • Indicator trading. Here you can apply automatic trading using a robot. But it requires a very skillful adjustment of indicators.
  • Wave analysis. This method can be used for trading in the direction of the main trend and in the direction of the expected reversal. But it requires knowledge and experience.

Of course, it is not advisable to fully rely on technical analysis. However, it provides the trader with valuable tools that can be combined with other types of analysis and boost trading efficiency. 

The main rule is not to make a decision using only one instrument. You should verify the data of one instrument by the data of one or two other instruments belonging to different groups. Forex risks are very high, even for experienced traders. 

Therefore, any technique should be used with extra care.