Modern traders employ many types of disciplines and strategies, and technical analysis is one of the better-known options. Today, the Vestle Trading Academy is going to take a closer look at the theory behind technical analysis and attempt to explain how it works, who uses it and why. We’re also going to do it all in just 5 points. Think we’re being overly ambitious?
Maybe you’re right. Let’s find out.
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1. It's an old discipline
While many modern traders all over the world employ the technical analysis discipline on a regular basis, it originates from the 17th or 18th century. That strange time with no internet or smartphones, when people couldn’t share every thought, question or meal via posts and tweets with all their friends and acquaintances. Some aspects of trading analysis can be tracked to the Dutch financial markets in the 17th century, but the combined work of Charles Dow and William Peter Hamilton is commonly accredited for the development of the early, modern form of this trading methodology.
2. Technical analysis focuses on past price movement
Essentially, this type of analysis attempts to contradict the disclaimers of every online trading site. It aims to use past performance as an indication of future performance. Of course, it’s a bit more complex than that. By analysing past price movements, the followers of technical analysis hope to recognise market opportunities, indications on where to place Stop Loss and Take Profit orders and to better manage risks. As you know, every regulated trading site (and every article from the Vestle Trading Academy) legally has to tell you that price performance is not a reliable indication of future performance, but evidently, Technical Analysis followers might not agree.
3. According to this theory, all the information you need is in the charts
While charts might not be the edgiest or coolest trading tool around, they’re still one of the most popular and important ones. Even Fundamental Analysis followers, who choose to focus on major events and market data in order to make trading decisions, still have to check the charts once in a while. For technical analysis followers though, the charts are the number one - if not only - source of information. According to this trading methodology, all the information about a specific instrument can be found in its past price movements, making other sources irrelevant.
This is a pretty black and white statement though and in reality, some traders combine both technical and fundamental analysis techniques in their decision-making process. Also keep in mind that there are many different types of charts or chart displays - candlesticks, lines, dots, areas, HLC and more - and different treaders have very different preferences.
4. Technical analysis employs indicators
In simple terms, technical indicators are chart patterns that are usually overlaid on price data charts in an attempt to recognise trends. Many of them are used to try and assess if a specific financial instrument is ‘overbought’ or ‘oversold’, hoping to identify when the trend will change. There are numerous technical indicators available to traders including MACD, RSI, Momentum, Relative Strength Index, Bollinger Bands and many others. The leading online trading sites will offer their clients free access to some sort of an indication tool, but it doesn’t mean all traders use them. Some don’t use indicators at all; some use just one or a few and some use a whole range of them, incorporated into an elaborate trading strategy. In any event, since each indicator operates differently, you should take the time to expand your knowledge of them before deciding if you want to use them and how.
5. No type of analysis guarantees results
While many traders follow the principles of technical analysis either as a standalone practice or as part of a trading strategy, this is just a theory, not fact, and it certainly doesn’t guarantee results. It is one of many available practices that can be used to make informed trading decisions, but it’s up to you to decide if you want to use it and to what extent. In any event, if you choose to use technical analysis or just want to expand your understanding of it, this short Vestle Trading Academy article is not enough. You need to learn, explore, do some extensive reading and even use a trading demo account to practice and enhance your skills.
The materials contained on this document have been created in cooperation with Vestle and should not in any way be construed, either explicitly or implicitly, directly or indirectly, as investment advice, recommendation or suggestion of an investment strategy with respect to a financial instrument, in any manner whatsoever. CFDs are complex instruments and come with a high risk of losing money rapidly due to leverage. 59.5% of retail investor accounts lose money when trading CFDs with this provider. You should consider whether you understand how CFDs work and whether you can afford to take the high risk of losing your money. Full disclaimer: https://www.vestle.co.uk/legal/analysis-disclaimer.html