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Technical analysis and how to use it

Trading

7 min read

In this blog we often discuss technical analysis and its details, providing some strategies and explaining the functioning of the indicators. However, not all traders, especially those who have just started exploring financial markets, can understand what technical analysis is and why it is important to apply it. Even those who consider themselves an expert, however, could benefit from reading this article.

What is technical analysis?

Technical analysis is an attempt to understand and predict future price movements based on past performance of price action. Technical analysis is not 100% accurate and may provide false signals. However, this method aims to predict the most likely outcome based on current conditions.

Securities, currencies, cryptocurrencies, commodities, indices and ETFs may be subject to forms of technical analysis. In other words, the principles of technical analysis are universal and can be applied to any instrument / asset. Furthermore, all assets can be analyzed using the same tools (indicators).

Screenshot 1 21IQ Option can boast a wide range of technical analysis indicators

How does it work?

Technical analysis works for assets where the price is affected by the law of supply and demand, while it is not applicable to securities in which prices are regulated differently (for example, by political decrees).

Furthermore, there are several hypotheses that must be met in order for the technical analysis tool to function properly.

High liquidity. The underlying must be exchanged for sufficient volume. Low-liquid assets are easier to manipulate and more difficult to negotiate in general. The factors associated with low liquidity trading make it unsuitable for technical analysis.

No artificial alteration of the price. An equity subdivision, being an artificial price change, does not affect the intrinsic value of the company in question, but drastically changes the price of the shares. Similar events can not be tackled by technical analysis.

No extremely influential news. Some events – such as a terrorist attack or the disappearance of a company's CEO – can not be predicted by technical analysis.

Basic principles

The price reveals everything. Technical analysts believe that the price action fully reflects all publicly available information. In other words, all past events and announcements on future ones are already reflected in the price of an asset. The price, therefore, reflects the real value of the underlying asset. This information is then used to predict the future.

Price movements are not entirely random. There are periods when prices follow the trend and periods when they deviate from it. Technical analysts believe that it is possible to identify trends, both in the short and long term, with the help of the indicators.

The "thing" is more important than "why". What is the price and how it will change are usually the only questions that technicians pose. While fundamental analysis is about the reason for price fluctuations, technicians ignore it. For technicians, prices rise when demand exceeds supply, that's all.

How to use technical analysis in practice?

Many technical analysis specialists apply a top-down approach, first evaluating the general indices, then the separate sectors and passing only afterwards to the individual securities. Regardless of the type of resource and the type of time you analyze, the steps to be performed will be approximately the same. First of all, you need to identify the trend (for example, Moving Average or Alligator). So you will need to identify the levels of support and resistance, the upper and lower limits from which the price action should not move away over a certain time interval (here the horizontal line can be of great help). Next you will need to identify the amount of momentum (for example with the MACD or another oscillator) and the optimal entry / exit points. As a final step, you will need to gather all the data mentioned above and use them to make a prediction.

Screenshot 2 14Alligator and MACD on the price chart

Conclusion

Experts in the field of technical analysis consider the market to be explained by 80% of psychology and only 20% of logic. It is therefore important to learn how to interpret the signals you receive from the market, but do not be surprised that it takes time to learn and master the forms of technical analysis.

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This article does not represent an investment advice. Any reference to past movements or price levels is informative and based on external analyzes, we do not provide any guarantee that such movements or levels may reoccur in the future. In accordance with the requirements set by the European Securities and Markets Authority (ESMA), trading with binary and digital options is only available to customers categorized as professional clients.

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CFDs are complex instruments and carry the high risk of losing money quickly due to the leverage effect. 76% of retail investor accounts lose money when trading with CFD through this provider. You should make sure you understand how CFDs work and if you can afford to take the high risk of losing your money.


Source: IQOption blog 2018-10-31 12:50:03

PLEASE NOTE: The articles on this website are not an investment advice. Any references to historical price movements or levels is informational and based on external analysis and we do not warranty that any such movements or levels are likely to reoccur in the future.

In accordance with the requirements set by the European Securities and Markets Authority (ESMA), trading with binary and digital options is only available to customers categorized as professional clients.

Some of the links on this page may be an affiliate links. This means if you click on the link and purchase the item, I will receive an affiliate commission.

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