Technical analysis is a technique used to forecast the future direction of prices through the study of historical market data, primarily price, volume and open interest.
Technical traders use trading information (such as previous prices and trading volume) along with mathematical indicators to make their trading decisions. This information is usually displayed on a graphical chart updated in real time that is interpreted in order to determine when to buy and when to sell a specific instrument.
The basis of modern technical analysis is made up of the following:
• The price is a comprehensive reflection of all market forces. At any given time, all market information and forces are reflected in the prices.
• Prices move in trends that can be identified and turned into profit opportunities.
• Price movements are historically repetitive.
Almost every trader uses some form of technical analysis. Even fundamental analysis traders are likely to glance at price charts before executing a trade, as these charts help traders determine ideal entry and exit points for a trade. They provide a visual representation of the historical price action of whatever is being studied. As it is focused on identifying trend reversal, the question of timing to enter a trade is easier to address with technical analysis.
Forex chart analysis is a main tool of technical analysis. Charts generally depict all the data obtained on the currency market and it does not matter, what chart you are looking at, it conveys very important and detailed information. Thus, your success on the Forex market directly depends on your chart analysis skills. Traders usually work with those charts that are more convenient and understandable for them and that meet their personal preferences and requirements. Chart time frame could be expressed in minutes, hours, days, or weeks.
The main types of charts include line charts, bar charts, and Candlesticks.
Each bar represents one period of time and that period can be anything from one minute to one month to several years. A simple bar chart shows opening and closing prices as well as highs and lows. The bottom of the vertical bar shows the lowest trade price for that time, while the top of the bar is the highest price that was paid.
Candlestick patterns can be used to forecast the market. Because of their colored bodies, candlesticks provide greater visual detail in their chart patterns than bar charts so they are easier to follow.
A candlestick chart indicates high to low with vertical line. The main body in the middle of this chart indicates the range between the opening and closing prices. If the block in the middle is colored in then the currency closed lower than it opened.
Line charts are one the most basic types of charts used in finance in general and forex in particular. This type of chart is formed through a line connecting a series of data points together; usually lines are drawn from one closing price to the next.
Line charts provide a clear visualization of the general price fluctuation over a given period of time. One of the main reasons that make line charts so popular is that they record closing prices, one of the most important prices to keep track of.
Besides studying chart patterns, there are other varied and more sophisticated technical tools and mathematical indicators available. The most commonly used are technical indicators, measuring support and resistance and using trend lines, although all three can be considered as technical indicators as they all rely on looking at the chart and reviewing recent history trying to spot whether a price is following a pattern or moving in a range.
A technical indicator is a graphical representation resulting from calculations based on the price action and is usually displayed along the bottom of the chart. A wide range of technical indicators are widely used by many traders. They can be categorized according to what they describe and what they indicate.
Trend is a term used to describe the persistence of price movement in one direction over time. Trends move in three directions: up, down and sideways. Trend indicators smooth variable price data to create a composite of market direction.
Example: Moving Averages, Trendlines
Market strength describes the intensity of market opinion with reference to a price by examining the market positions taken by various market participants. Volume and open interest are the basic ingredients of this indicator. Their signals are coincident or leading the market. Example: Volume
Volatility is a general term used to describe the magnitude, or size, of day-to-day price fluctuations independent of their direction. Generally, changes in volatility tend to lead changes in prices.
Example: Bollinger Bands
A cycle is a term to indicate repeating patterns of market movement, specific to recurrent events such as seasons, elections etc. Many markets have a tendency to move in cyclical patterns. Cycle indicators determine the timing of a particular market patterns.
Example: Elliott Wave
Support and resistance describes the price levels where markets repeatedly rise or fall and then reverse. This phenomenon is attributed to basic supply and demand.
Momentum is a general term used to describe the speed at which prices move over a given time period. Momentum indicators determine the strength or weakness of a trend as it progresses over time. Momentum is highest at the beginning of a trend and lowest at trend turning points. Any divergence of directions in price and momentum is a warning of weakness; if price extremes occur with weak momentum, it signals an end of movement in that direction. If momentum is trending strongly and prices are flat, it signals a potential change in price direction.
Example: Stochastic, MACD, RSI