Technical analysis track historical prices and traded volumes in an attempt to identify trends. It use graphs and charts to plot this information. By attempting to quantify historical performance, technical analysts seek to identify repeating patterns as a means to signal future buy and sell opportunities.
The field of technical analysis is based on three important assumptions:
1. The price of a security automatically factors in economic conditions.
Technical analysts believe that the impact of events such as interest rate changes or the latest inflation reports are automatically factored into the currency price through the natural actions of buyers and sellers within the market.
2. When it comes to pricing, history tends to repeat itself.
Technical analysts believe that prices move in trends and price movements generally follow established patterns that can be partly attributed to market psychology (or, more euphemistically, “herd mentality”). Market psychology is based on the widely-held belief that participants in markets, who for the most part have the same goals and objectives, react in a similar fashion when faced with similar situations.
3. Once established, trends tend to continue.
Technical analysts look for trends as a way to predict future prices. There are three self-explanatory trends:
- Sideways / horizontal trend
Technical analysis continues to evolve, and most trading platforms offer a host of tools to automate the calculations required to plot prices.
Trend lines are lines that can be placed over two or more price points in a chart. Trend lines can be used to highlight previous support and resistance price levels, as well as overall market direction.
A support trend line connects the lowest price points for a currency pair and shows the recent levels to which the rate dropped before bottoming out and rebounding. This is the point at which the market supports the price.
A resistance trend line connects the highest prices a currency pair reached before falling back to lower levels. This is the point at which the market resists moving the price higher.
Directional trend lines are used to highlight an overall market direction for a currency pair.
Candlestick charts were developed back in 18th century Japan, when these were used by buyers and sellers in the rice market.
Candlesticks are similar to bar charts and provide opening and closing values, current direction trends, and the high and low price for each reporting period.
The body length of the candlestick shows the relative change in the open and close rates for the reporting period – the longer the body, the more volatile the swing between the open and close rates.
The colour of the candlestick body provides key information. A hollow candlestick means that the bottom of the body represents the opening rate, while the top shows the closing price. A filled candlestick, on the other hand, shows the opening rate at the top of the body and the closing rate at the bottom.
Therefore, a hollow candlestick shows a rising trend, while a filled candlestick points to a decreasing trend.
COMMON CANDLESTICK PATTERNS
Candlestick patterns are seen by some traders as a form of rate direction signal. The following list includes some of the more popular patterns, and explains how to interpret the signal.
Leonardo Fibonacci was a 13th century mathematician who noted that the natural world seemed to consistently repeat patterns based on the same set of numbers. The Fibonacci sequence has been adapted by technical analysts as tool predict future rate levels immediately after a major price fluctuation.
The theory is that after a rate spike in either direction, the rate will often return – or retrace – part way back to the previous price level before resuming in the original direction. Some analysts believe that these retracement levels often match ratios derived from numbers in the Fibonacci Sequence.
The most commonly-used ratios include the following:
- 61.8% – also known as the “golden mean”, it is considered the most reliable of the Fibonacci Ratios and is derived by dividing any number in the sequence by the number that immediately follows. The average result is 61.8%.
- 38.2% – found by dividing any number in the sequence by the number two places to the right. The average result is 38.2%.
- 23.6% – found by dividing any number in the sequence by the number three places to the right. The average result is 23.6%.
In addition to these ratios, most trading platforms also show retracement lines at 50 and 100 percent.
The Fibonacci sequence is created by adding one number in the sequence to its previous number to arrive at the next Fibonacci number. For example:
0 + 0 = 0
0 + 1 = 1
1 + 0 = 1
1 + 1 = 2
2 + 1 = 3
3 + 2 = 5
5 + 3 = 8
Following this pattern, the first 25 numbers in the Fibonacci Sequence are 0, 1, 1, 2, 3, 5, 8, 13, 21, 34, 55, 89, 144, 233, 377, 610, 987, 1597, 2584, 4181, 6765, 10,951, 17,716, 28,667, 46,383
Bollinger Bands are placed over a price chart and consist of a moving average, together with upper and lower bands that define pricing channels.
Bollinger Bands measure volatility for a currency pair. Volatility is the degree by which an exchange rate varies over time.
Traders keep a close eye on volatility because a sudden increase in volatility levels is often the prelude to a market trend reversal.
Bollinger Bands show relative volatility changes through the width of the bands themselves – the wider the bands, the greater the volatility. In the Bollinger Band example below, you can see that at the far left of the chart, the upper and lower bands are close together and are near the moving average line. However, just after the 15:00 mark, the bands start to widen when the rate begins to fall until it reaches a support level, at which point it begins to rise again. Note the widening of the bands, indicating that volatility remains greater than before the rate decline.
Disclaimer: Kindly note that there are many more technical indicators available and this selection is not extensive. The provided information is only for information purpose and does not represent any investment advice. Independent advice should be considered prior to making an investment decision