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chapter 4: Technical Analysis

Introduction

As we have already stated in the previous lesson, technical analysis tries to determine the future performance of any financial instrument based on the study of historic prices (price behavior).

By studying the price behavior and technical analysis we are actually analyzing the behavior of all traders involved in a certain market. Traders and investors are behind every price movement; after all, they all drive the price to a certain level. The price moves based on traders’ expectations; on what they think the future price of any given instrument should be.

Most of the time traders are driven by their emotions (fear, greed, hope, etc.) and these emotions are visible on the charts as repetitive price patterns. The outcome of these specific patterns is what technical analysis tries to forecast.

Technical analysis is based on the Dow Theory which has three main principles:

Price Discounts Everything - All information available is already reflected in price, it reflects the knowledge of everyone involved, including fundamentalists.

Price Behavior is not Random - Although there are periods of trendless or random behavior, the price tends to trend. Our job as technicians is to identify those periods where the price is trending and profit from them.

The “What” (or “Where”) Question is more Important than “Why” - The “What question” refers to where is price and what is its historical behavior. Those questions are to be answered by technical analysts. Why is price at certain level? This one is of concern of fundamental analysts; they look for reasons behind certain price movements.

And here we go with Technical Analysis... This Lesson is structured as follows: Section 1: Types of Charts - We will review the most common types of charts used by technical analysts.

Section 2: Support and Resistance - We will review one of the most important concepts of trading; we will see what makes support and resistance and how to identify them.

Section 3: Support and Resistance FAQ’s – Here you will find common questions about support and resistance zones.

Section 4: Trends and Range Bound Conditions - How to identify a trend and a range market. We will also see how to measure its intensity through trendlines.

Section 5: Candlesticks Intro - We will review the most popular type of charting used by technical analysts.

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