INTRODUCTION TO TECHNICAL ANALYSISTechnical analysis is a method of forecasting price movements by looking at purely market-generated data. Price data from a particular market is most commonly the type of information analyzed by a technician, though most will also keep a close watch on volume and open interest in futures contracts.
Technical analysis assumes that:
All market fundamentals are depicted in the actual market data. So the actual market fundamentals and various factors, such as the differing opinions, hopes, fears, and moods of market participants, need not be studied.
History repeats itself and therefore markets move in fairly predictable patterns. These patterns, generated by price movement, are called signals. The goal in technical analysis is to uncover the signals given off in a current market by examining past market signals.
Prices move in trends. Technicians typically do not believe that price fluctuations are random and unpredictable. Prices can move in one of three directions, up, down or sideways.
Technical analysis is based almost entirely on the analysis of price and volume.
Open - This is the price of the first trade for the period (e.g., the first trade of the day). When analyzing daily data, the Open is especially important as it is the consensus price after all interested parties were able to "sleep on it."
High - This is the highest price that the security traded during the period. The High represents the highest price buyers were willing to pay.
Low - This is the lowest price that the security traded during the period. The Low represents the lowest price sellers were willing to accept.
Close - This is the last price that the security traded during the period. Due to its availability, the Close is the most often used price for analysis. The relationship between the Open (the first price) and the Close (the last price) are considered significant by most technicians. This relationship is emphasized in candlestick charts.
Volume - This is the number of shares (or contracts) that were traded during the period. The relationship between prices and volume (e.g., increasing prices accompanied with increasing volume) is important.
Bid - This is the price a market maker is willing to pay for a security (i.e., the price you will receive if you sell).
Ask - This is the price a market maker is willing to accept (i.e., the price you will pay to buy the security).
Here are a few of the more common types of indicators used in technical analysis:
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, Trend lines)
Market strength describes the intensity of market opinion with reference to a price by examining the market positions taken by various market participants. Volume or 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. (Example: Trend Lines)
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)