What is Technical Analysis?
Technical Analysis is an analysis method that aims to identify price trends of stocks. Technical analysts look at statistical trends from the market. These trends include prices, and volumes traded.
Technical analysis is dependent on charts, and numerous different indicators, such as the RSI, moving averages, and Bollinger bands.
Technical analysts believe that past prices of a security can be indicative of future prices.
Understanding Technical Analysis
Fundamental and technical analysis are two different approaches to determining the value of a security. While fundamental analysis looks at the profits and losses of a company, technical analysis only looks at the price changes of a stock
Usually, technical analysis is more geared towards short term trading, while it isn’t the best method for long term investments.
The basis of technical analysis is assuming that past performance and price activity of a stock, paired with the appropriate trading rules, can be used to predict future prices of the stock
Technical analysis aims to do this, using the fundamental forces of supply and demand. Some experts say that technical analysis is simply the study of supply and demand, and how that affects the price of a security.
Generally, technical analysts look at the following indicators
- Price
- Moving Averages
- Trading Volumes
Principles Of Technical Analysis
There are three general assumptions that are made during technical analysis.
- 1. The market discounts everything: Technical analysts believe that all the fundamentals of a stock and other external factors are reflected in the price of the stock
- 2. Price moves in trends: Technical analysts believe that the price of a security always has an underlying trend, even in a seemingly random movement.
- 3. History repeats itself: Technical analysts believe that historical price trends can repeat themselves. This is due to the “herd mentality” of the market. When economic recessions occur, the market drops, and when the economy is doing well, prices rise. This occurs frequently and repeats throughout history. Technical analysts believe that they can predict these price movements with the help of graphs, and set entry and exit points.
The Limitations
One common criticism of technical analysis is that history doesn’t repeat itself exactly. Hence, studying historical price patterns is slightly redundant, and can be overlooked.
Another criticism of technical analysis is that they make sure that their predictions will come through.
For example, many traders might put in a stop-loss order, and when the stock reaches said price, there will be many sell orders at the same instant, which further pushes the price down. In the short term, there may be such influences, where technical traders can drive the price up or down, but in the long run, they cannot successfully do so.
Conclusion
Fundamental analysis and technical analysis are at the heart of investment. Even though they are at two ends of the spectrum, they complement each other and should be used in unison.
