There are several methods for determining whether an investment is good or bad, as well as when to purchase or sell it. When considering a new investment, whether a stock or another type of security, the overall economy, economic statistics, financial statements, and fundamentals can all be useful considerations. One of them is technical research. What is technical research, exactly?
What is technical analysis?
Technical analysis is one way to analyze potential investments to determine if or when to buy or sell. It is based on the idea that supply and demand affect the price of a security and that changes in it can forecast future movement.
On a more granular level, it uses the study of past price movements in an effort to determine future price movements of a particular security or group of securities. Instead of analyzing a company’s dynamics, such as it's balance sheet or corporate structure, technical analysis uses price and volume data to attempt to predict future security prices.
There are three main tenets of technical analysis:
1. Market action accounts for everything:-
The first tenet of technical analysis is a basic belief that the efficient markets hypothesis is correct. This means that all available information about a stock’s value is reflected in the stock’s price. When new information that would affect the value of a stock becomes available, it is quickly and completely absorbed by the market and reflected in its price.
2. Prices move in trends:-
The second basic tenet relies on a belief that prices will continue to move in the same direction until a technical indicator suggests a reversal. There are many different technical indicators, and the specific one chosen is up to the individual investor. The idea here is to identify and follow the trend until it shows signs of reversing. For example, if the price has been rising but now the technical indicator suggests it will start to fall, an investor may choose to sell that security.
3. History repeats itself:-
The final tenet of technical analysis is that historical patterns in stock price movements tend to repeat themselves. This element of technical analysis relies on market psychology to interpret patterns in price charts. Market psychology is the collective sentiment of all investors, and the belief here is that this is what drives the ups and downs in security prices. When investors are optimistic about security, they will buy it and push the price up. When that optimism falls, they will sell and the price will fall.
Advantages of Technical Analysis:-
- Psychology:- Technical Analysis helps in understanding the psychology of Investors and Traders regarding the market and gives a clear understanding of what they are doing.
- Trend Analysis:- The ultimate advantage of technical analysis is that it helps the traders and investors to predict the future of the market and make investment and trading decisions based on the analysis. The market usually has three trends namely Up Trend, DownTrend, and Sideways or Ranging Market and these trends are easy to predict with the help of technical analysis.
- Entry and Exit Points:- In Investing and Trading, an important role is played by Time. The right time to enter or exit the market is easily predicted with the help of technical analysis which enables good returns. Candlestick Patterns, Chart Patterns, Elliot wave theory, Dow Theory & various Indicators are extremely useful for investors and traders to make a good entry and exit from the market.
- Early Signals:-The main advantage of technical analysis is that it provides early signals before the reversal of the trend so that investors and traders can take there decision based on those signals. Activities of Market makers can be analyzed with the help of technical analysis and such activities can be observed in Price-Volume Analysis.
- Stop Loss and Target:- Technical Analysis clearly defines the Stop Loss and Target for the position taken by investors and traders in the market. This helps traders and investors to decide as per the individual risk appetite.
Understanding Technical Analysis
Technical analysis is the study of historical price action in order to identify patterns and determine probabilities of future movements in the market through the use of technical studies, indicators, and other analysis tools.
- Identifying trend:- Identifying support/resistance using price charts and/or timeframes Markets can only do three things: move up, down, or sideways. Prices typically move in a zigzag fashion, and as a result, price action has only two states:
- Range – when prices zigzag sideways
- Trend – prices either zigzag higher (up trend, or bull trend), or prices zigzag lower (downtrend, or bear trend)
Technical Tools for technical analysis:-
- Charts:- Volume charts are one of the most widely used technical analysis tools that show the number of shares bought and sold in the market during a day. You can either use a bar chart or candlestick chart for tech analysis. Used in tandem with trendlines, charts facilitate this exercise to a great extent.
- Momentum Indicators:- They are statistical figures calculated based on stocks’ price and volume data. During technical analysis, momentum indicators act as supporting tools to charts. One of the objectives of technical analysis is to confirm your views about a stock and momentum indicators help you do it with ease.
- Moving Averages:- Another technical analysis tool, with moving averages you can eliminate sharp and frequent fluctuations in a stock chart. Note that sometimes there could be sharp movement in stock prices within a short period. This makes it difficult to predict the trend. Moving averages help remove its impact and make the trend more prominent.
So that is about the first part of the basic guide to technical analysis. To know more about the Japanese candlestick chart stay tuned.