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Technical Analysis

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What is Technical Analysis? Technical analysis refers to a set of techniques that try to predict stock prices from a historical perspective, taking into account the behavior of certain magnitudes securities, as trading volume and evolution of the prices. It is based on the behavior and psychology of investors and in the movement of prices. It is supported by the construction of charts showing the historical evolution of the prices of securities, analysis of figures and the use of oscillators and indicators. This method is characterized by its objectivity and can be applied to any liquid market and allowing the diversification in the investment. Moreover, and perhaps one of its most attractive, is the fact to evaluate and control risk by Stop Loss.  

Philosophy of Technical Analysis There are three assumptions that we consider particularly important for technical analysis:

  • The market incorporates all the information or expectations of the agents.  With technical analysis just need a chart to give our recommendation, as opposed to fundamental analysis.
  • In market prices move by trends
  • The history repeats itself and this is what allows us to identify prices figures.

Types of Charts in Technical Analysis We can develop different types of graphs in each case will allow us to differentiate the opportunities to buy / sell. The use of a graphic or another type will depend on principle, whether it is an investor in the short, medium or long term:

  1. Short-term Investor: will employ for their charts and technical analysis, intraday or daily data.
  2. Medium term Investor: will employ for their charts and technical analysis, intraday or daily data.
  3. Long term Investor: will employ for their charts and technical analysis, data weekly or monthly.

Another differentiation between graphs, we could make between bars, candles or line

  1. Line: Indicates the time evolution of the asset value or index being analyzed.
  2. Bar: Indicates the evolution of the value, but also shows the maximum and the minimum of each session of the asset or index analyzed, that will be the "bumpers" above and below each bar.
  3. Candle (candlestick): This type of study shows the evolution of the value in the form of candles, opaque and transparent. Each refers to the change in value in the range analyzed. For example, if you point at a time interval, each candle will refer to one hour of trading. A transparent candle indicates that the value or index is up, the bottom of the column where it started the price points of the variable, and the top edge where it ended. The lines protruding vertically from the edges indicate which the maximum (top line) was and minimum (lower line) in the same range. A candle opaque, however, indicates that the security or index has fallen, the bottom of the column where it ended the price points of the variable in that range, and the top edge where it started. The lines show the same as in the previous case, ie, what was the maximum (upper line) and minimum (lower line) of trading in the same range.

We also cite those graphics used in the long term, arithmetic or semi-log scales, which take into account the percentage changes of the analyzed values. 

Chart Lineal

 

Chart Bars

 

Chart Candle

 

Trend of Technical Analysis The trend is the direction that follows the market prices. If we observe the behavior of the market, we see how these prices do not have a linear behavior, but rather show high and low, with successive maxima and minima that are known as peaks and ridges respectively. The direction in which these peaks and ridges occur is what determines the trend. So if we look we can conclude that value is in bullish, bearish or side.

  • Bullish Trend: Succession of peaks and ridges increasingly high
  • Bearish Trend: A succession of peaks and ridges progressively lower
  • Lateral trend: When the series of peaks and ridges that develops following a horizontal line.

The trends are classified into three types according to their duration, although this classification is subjective to each investor: main or primary trend, covering periods exceeding one year, secondary trend, ranging from three weeks to several months, and minor trends or short term, which can last from one day to several weeks. 

Bullish Trend

 

Bearish Trend

 

Side Trend

 

Support and resistance in Technical Analysis Concepts derived from trend are the support and resistance

  • A support is a level below the market where interest of buying is sufficiently strong to overcome selling interest. This is certainly indicative of a purchase point.
  • A resistor is a level above the market where interest of selling is strong enough to overcome buying interest. It is certainly indicative of a selling point.
  • The trend may be upward or downward according to the concepts of support and resistance. A trend is considered bullish when each minimal or support is surpassed by the next and each resistor is located at a higher level than before. By contrast, a trend is downward when each support is below the last and each resistance level is also lower than the previous one.

Variations of the above definition in terms of bullish or bearish trends can be signals before a possible change in trend. Something quite accepted is the fact that a broken support with force becomes the next resistance at the following correction. Similarly, a resistance broken upward becomes possible support in the next downward correction. 

Support and resistance

 

Trend Lines in Technical Analysis A trend line is a straight line joining the successive minima or supports, whether it is an uptrend, or successive highs or resistance if is bearish. Since a trend in motion will tend to continue the direction of motion, projected when the trend prices tend to bounce on that line. Very often, a break from that trend line prices is also a notice that it will produce a change of trend. Trend lines, as well as support and resistance, also invest their status when they are significantly transferred: a trend line upward when it is punched down, goes from being a support line to become a resistance line for the next recovery in prices. In a downtrend line the opposite happens: goes from being a resistance to become a line of support for new falls in the prices. 

 

Determination of the strength of support and resistance Not all support or resistance are equally effective, the strength depends largely on the following factors:

  • Time horizon: that is the greater has been the time that value has respected such support or greater resistance will be its strength
  • Volume of procurement: the greater the volume with which the value confirms the support or higher resistance will be its strength.
  • Number of times that you have been touched: the greater the number of times  that have been respected most is its strength.

What constitutes a valid breakout of the trend line? To be considered that a value or index has broken the trend line, it should be treated for greater reliability and that is really significant of closure beyond the trend line. In any case you should set filter of time (2 days more or less), or price filters (1.2% or 3%), in order to leave a margin for error. The decision on the type of filter to use depends on the characteristics of value, and especially of its volatility. On the other hand, we believe that the break of the trendline will enjoy greater reliability where also there is a break of support or resistance in his case. Finally to validate the movement, we see that we have tried to break with volume, as to major volume, major reliability. 

 

Erick Gálvez
Author: Erick GálvezWebsite: http://www.asdforex..comEmail: This email address is being protected from spambots. You need JavaScript enabled to view it.
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ASDForex manager and professional trader since 2008. I am also Aleforex.com manager where you can view the services that I give
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