Technical analysis is my approach to the markets without the use of a multitude of trading indicators. You can see how I use simple technical analysis ideas every week in my free Forex setups that I send out.
Why do I use simple things like breakouts and pullbacks in my technical analysis approach? Because they work.
They don’t just work in theory, they work from a quantitative standpoint.
The natural evolution of price involves consolidations and momentum. I classify everything that is not trending at a certain point, consolidations. Even pullbacks are considered as such to simplify everything at a high level.
I will then break price down in terms of mean reversion (which can be traded), momentum back in the direction of the trend, and finally typical breakout scenarios.
This post is not a full technical analysis tutorial but will give you an overview of technical analysis.
I’ve also linked to some amazing resources at the end which you can read for further study on technical analysis.
1. Definition Of Technical Analysis?
Technical analysis is a method for forecasting of future direction of price movement based on the study of past market data. This market data is mainly price and at times can be volume as well. I don’t use volume when in actual trading decisions when I am trading futures.
2. What Is A Technical Analyst?
Anyone who researches and analyzes the market based on past price data as well as technical indicators could be considered a technical analyst as opposed to a fundamentalist. Technical Analysts are also called technicians.
If you learn about price action trading, chart patterns, candlesticks, Forex indicators and use them in your trading later on, then you are a technical analysts.
Why? Because you are basing your trading decisions (to buy or sell) on the technical analysis you have done.
3. What Do Technical Analysts Believe In?
There’s one important thing (pure) technical analysts believe in and this is it: that price movements are the result of supply and demand forces in the market for any given currency pair. They also believe that patterns repeat themselves and the much of the information that can affect price is already known.
This belief system makes technical analysts completely opposite to fundamental analysts.
4. Do You Know What Is Price In Forex Technical Analysis Context?
Price is simply the combination of open, high, low or close of a currency pair over certain period of time. This time can be 1 minute, 15 minutes, 30 minutes, 1 hour, 4 hour, daily, weekly or monthly price data if you intend to use MT4 Trading Platform.
Price over time is represented by charts. I will get to the topic of charts below.
5. What Is The Difference Between Technical Analysis Vs Fundamental Analysis?
Here are the main differences between technical analysis and fundamental analysis…
- technical analysis starts with a chart.
- technical analysts take a much shorter time horizon to do their technical analysis using time frames from a week, days, hours and even minutes.
- fundamental analysis starts with a financial statement.
- fundamental analysts take a long relatively long term approach to analyzing the the forex market.
What is a financial statement? In the context of Forex fundamental analysis, financial statements (broadly speaking) are such fundamental data like:
- interest rates,
- employment/unemployment rates,
- Gross Domestic Product,
- Trade Balance etc
There’s more to fundamental analysis than those factors listed above. Other factors can include government and political/geopolitical factors which are or can be really hard to quantify by data.
When a fundamental analysts get busy analyzing fundamental data, what he is really doing is to determine if a country’s economy is getting weaker (less demand for their currency) or getting stronger (more demand for their currency).
- if a fundamental trader who wants to trade the Australia dollar, he would look the main factors that drive the Australian Economy.
- lets say that Australia’s unemployment rate last month was 5% and then this month its at 4% then what do you think is happening?
What do you think? Is the country’s economy in good shape or not?
Well the fact that the unemployment rate has decreased from 5% to 4%, that is a good indication that:
- a lot more people have entered the workforce,
- which means more businesses are active and are hiring employees
- which means more money in the pocket of the workers,
- which means they spend more on goods and services keeping business alive in the country,
- which means the governments gets more taxes from individuals as well as businesses.
So its good for the country? Yes.
So what tends to happen is the the Australian Dollar has the chance to be stronger than any currency pair that it pairs up with, like AUDUSD.
This is a very basic explanation of how fundamental analysts look at the underlying fundamental data to predict or forecast the movement of price in the future and then trade based on that information.
But you see, here’s the thing: fundamental analysts will eventually have to get back to the use of charts to time their trade entries.
On the other hand, technical analysts believe that all that fundamental data is already factored into price by the market forces of supply and demand therefore why attempt to decipher the multitude of data that a fundamentalist will look at?
6. What Tools Do Technical Analysts Use?
Technical analysts use many tools and techniques. The main one is the chart. A chart represents price behavior over time.
There are 3 main types of charts used and they are:
I will take you briefly through each one of these 3 charts so you have a basic understand of the difference of each chart.
Candlestick Charts Are The Most Used By Retail Forex Traders
The building block of a candlestick chart is a single candlestick:
When you have a group of candlesticks forming over a certain period of time then this forms a candlestick chart:
A candlestick chart simply looks like a candle, that’s why its called by that name…candlestick chart.
The information revealed in a candlestick chart are:
- the open price
- the high price
- the low price
- and the closing price
Additionally, the length of the “body” of the candlestick gives you an idea of how far away the the price has moved from the opening price before it closed and this tells you a lot of things like:
- how strong the price move was during that period if the closing price is far away from the opening price.
- how weak the price move was if the closing price is closer to the opening price.
There a lot more to candlesticks than just those two mentioned above. If I have to to write about candlesticks, I won’t be able to write about what I’m writing here…which is technical analysis. Instead of working with individual candlesticks, I will generally be more interested in the patterns that they make.
In short, a candlestick chart is more appealing to many traders and it is the most popular charting and tool used the by traders.
The building block of a bar chart is a single bar:
When you have lots of bars form across a certain time period then you have a bar chart:
A bar chart simplly looks like a bar, that’s why its called a “bar chart”.
The information shown in a bar chart is exactly the same as a candlestick chart:
- open price
- closing price
- high price
- low price
The only thing here is that the bar chart does not have a body…its just like a stick. Bar chart is the 2nd most popular chart used in trading by technical analysts. I will use bar charts on higher time frames but for trading decisions, I can get the information I need faster through candlesticks.
A line chart is a really simple chart that is just made of one line connecting either the open, high, low or close of prices. It is most often a line connecting the close of prices:
If you have a line connecting a serious of open, high or low or close of price over time, this gives you a line chart:
In reality, a line chart is would be rarely used in trading as it does not give you a much more fuller detail like the candlestick or the bar chart.
Comparing Candlestick Chart vs Bar Chart Vs Line Chart Side By Side
Let’s look at them side by side and see the difference, shall we?
The following chart is the same price chart information of EURUSD as represented by candlestick chart vs bar chart vs line chart:
- candlestick charts are very popular, used by many traders
- bar char are also popular and used by traders
- line charts, rarely used for trading.
- technical analysts use candlestick charts and bar charts for their analysis (rarely line charts)
7. What Chart Patterns Do Technical Analysts Look For?
There are many chart patterns but you really don’t need a lot of them to make money in Forex. You could just learn a few and be good at it. What is the point of knowing everything but being a master of none?
Knowing the different chart types is good but not good enough. You need to know what to look for in a chart, especially in a bar and candlestick chart.
So what are chart patterns? They are specific repeated price patterns that are formed as a result of price action on the charts.
These chart patterns give traders an indication of the likely direction of where price is going to go next. How do they know? Because of observing and studying what happened in the past when these chart patterns were formed.
So what kind of chart patterns do you have to look for?
In my price action trading course, there’s an entire chapter 10 dedicated to 9 profitable chart patterns, I suggest you head there and read it after going through this.
You will learn about such chart patterns like:
- the head and shoulders
- double bottom patterns and lots more.
If you are a trader wanting to learn more about technical analysis head to that link on chart patterns. To be open, I don’t concern myself with the many different patterns. For me, price is either trending or it’s not and I don’t need to know all the different triangle patterns because to me, they show the same market condition: consolidation.
8. What Candlestick Patterns Do Technical Analysts Look For?
Technicians also look for specific candlestick patterns to give then an indication of the likely direction price is going to move.
So what’s the difference between chart patterns and candlestick patterns?
Well, chart patterns usually involved a lot more candlesticks compared a candlestick and these can be spaced sporadically over time and it needs a keen eye to actually pick out the charts patterns that are forming.
With candlestick patterns, at the most, it involves 1-2 candlesticks that form next to each other.
The best resource for you to learn more about candlestick patterns are these links below:
- top 10 reversal candlestick patterns
- if you want more details of each of the top 10 reversal candlesticks including how and why and why causes them to form, then click here.
9. What Technical Analysis Indicators Are Used In Technical Analysis?
There are now hundreds of indicators that any Forex trader can use today. But there are only a few that are much more frequently used that the rest.
A quick look in the MT4 trading platform reveals this:
Most of these forex indicators are derived from price and to a lesser extent, volume.
Here are 4 Popular Technical Analysis Indicators For Trend Identification:
- moving average (for example, if moving average is pointing up and price is travelling above the moving average line then the trend is up, the opposite for downtrend)
- bollinger bands
- parabolic SAR.
- average directional movement index
Here are 5 examples of Popular Oscillator Indicators used by technical analysts:
- average true range
- commodity channel index
- Relative Strength Index
- Stochastic Oscillator
All these indicator are tools used by technical analysts to assist them in making trading decisions.
As a free gift, you can download this free indicator blueprint that can give you a different look at using indicators as a form of technical analysis.
10. Who Is The “Father” Of Technical Analysis?
Charles Dow. Charles Dow was the person credited with being the father of technical analysis although that is probably up for debate.
11. What Are The 3 Main Technical Analysis Theories Put Forward By Charles Dow Which Are Still Valid Today?
- price discounts everything
- price movements are not totally random
- What is more important then “Why?”
12. What Is The Price Discounts Everything Theory?
I quote Stockcharts on this answer:
Technical analysts believe that the current price fully reflects all information.
Because all information is already reflected in the price, it represents the fair value, and should form the basis for analysis.
After all, the market price reflects the sum knowledge of all participants, including traders, investors, portfolio managers, buy-side analysts, sell-side analysts, market strategist, technical analysts, fundamental analysts and many others.
It would be folly to disagree with the price set by such an impressive array of people with impeccable credentials.
Technical analysis utilizes the information captured by the price to interpret what the market is saying with the purpose of forming a view on the future.
13. What Is The Price Movements Are Not Totally Random Theory?
I again quote stockcharts on this answer:
Most technicians agree that prices trend. However, most technicians also acknowledge that there are periods when prices do not trend. If prices were always random, it would be extremely difficult to make money using technical analysis. In his book, Schwager on Futures: Technical Analysis, Jack Schwager states:
“One way of viewing it is that markets may witness extended periods of random fluctuation, interspersed with shorter periods of nonrandom behavior. The goal of the chartist is to identify those periods (i.e. major trends).”
14. What Is The “What Is More Important Than The Why Theory?
Tony Plummer in his book, The Psychology of Technical Analysis, paraphrases Oscar Wilde by stating that “A technical analyst knows the price of everything, but the value of nothing”.
It means that technical analysts are only only interested in 2 things:
What is the current price?
What is the history of the price movement?
Price is the end result of the underlying forces of supply and demand in a currency pair. Therefore by focusing on one thing only…PRICE, technical analysis presents a direct approach.
This argument does not sit well with fundamentalists because they are concerned with the ‘WHY’ price is what it is.
For a technical analyst, trying to ask and then answer the “why” question brings a lot of possible answers and some of those answers cannot be quantified and also on the same token, they can be too broad.
So for a technical analysts perspective, it is best to concentrate on what and never mind the why and if the price goes up, the technical analysts knows that the answer is really one thing: more buyer (demand) than sellers (supply).
Keep in mind that the main driver behind Forex is interest rates and the outlook of a country’s economics. Supply and demand as it is generally understood, it can be argued, take a backseat.
15. You Don’t Need A University Degree To Do Technical Analysis
A chart is a chart! You don’t need a business or economics degree to know how to analyze a EURUSD chart or a GBPUSD chart or a AUDUSD chart. But if you want to be a fundamental analyst, getting a university degree in business economics can helps because there’s a lot in fundamental analysis.
The good thing about technical analysis that you in one financial market, example forex, can be applied to all the markets-they are universal.
Things like support and resistance levels, trading range, trend, price chart patterns, candlestick patterns can be used on any chart. The time frame they are applied to does not matter, it can be one minute up to on month.
16. Do You Need To Know Everything In Technical Analysis To Become A Profitable Trader?
No. Being a very good technical analyst is no guarantee that you’d be a profitable trader, far from it. The application of technical analysis knowledge with sound forex money management leads to success.
Believe this or not, you could focus on pullbacks that have been borne out of momentum, as your only trading setup.
17. Main Things Technical Analysts Look For In A Chart When Analyzing Price?
- When price is heading up, that is called an uptrend.
- when price is heading down, that is called a downtrend.
- the use of trend trading strategies like moving average crossovers like floor traders method or trendline trading system allows traders to ride trends to make profits in trending markets.
- A price level where price heads down and bounces up from significantly is a support level.
- spotting them on a chart is very easy, looke for “valleys” or bottoms
- support levels provide traders good buying opportunities
- the use of bullish reversal candlesticks for trade entries enhances your trading strategy in this situation.
- trading strategies like this can be really handy.
- resistance levels are opposites of support levels and by definition, resistance levels are price levels where price goes up, hits it and moves back down.
- spotting them on charts is really easy….look for a ‘mountain tops” or a peaks
- resistance levels provide very good selling opportunities
- the use of bearish reversal candlesticks to sell greatly enhances your trade entries.
Trading ranges or price channels
- price ranges can also be called channels and looks like a ball bouncing in a narrow tunnel until eventually price will breakout of of this narrow range either up or down.
- price channels are in fact support and resistance levels at work, so price bounces between the support and resistance levels.
- price channels can be horizontal like shown on the graph below, or they can be diagonal price channels.
18. What Is The Core Of Technical Analysis?
Price! The objective of a technical analysis is to predict future price movements. Price is a leading indicator. Why? Because price often precedes fundamental developments and therefore it really makes sense to look directly at price movements.
19:What Is The Best Resource For Learning More About Technical Analysis?
I’m going to be bias on this one BIG TIME…its my price action trading course, apart from being absolutely free and you don’t have to pay anything, my course covers topics such as:
- price and charts in a lot more detail than what I’ve mention here
- an in depth look into candlesticks and understanding the buying and selling pressure on candlesticks
- what candlestick wicks tell you about the market forces of supply and demand
- an in depth look into forex market trends and this includes down theory of trends, structure of a bull market, structure of a bear market
- price reversals and continuation and 3 reasons why it is important for you to know them
- market swings
- how to trade support and resistance levels in much more in depth detail
- a lot more on 9 profitable chart patterns
- a lot more on 10 profitable candlestick patterns
- how to trade with fibonacci with price action
- how to trade trendlines with price action
- how to trade moving averages with price action
- how to trade confluence with price action
- multi timeframe analysis and trading techniques
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