In the world of stock trading, there are two types of market analysis: fundamental and technical. For the most part, people of both schools of thought get along pretty well, but to say they’re close to agreeing is a distant dream. Most retail traders (ordinary people who trade the market) have been taught fundamental analysis to some degree. They are aware of the reality that stock prices are affected by earnings reports and that a company’s total debt load can only be so high. However, few understand why the price of a stock fluctuates so much from day to day. And that price change is exactly what technical analysis looks at.
In its simplest form, technical analysis could be considered chart-based behavioral finance. It is the study of how people react to stocks, futures, currencies, or any other trading vehicle by observing their behavior through the price action of the commodity they are trading. In this series of articles, I will open your eyes to the world of technical analysis and show you how you can use it to advance your own trading.
To be a technical analyst you must subscribe to the first rule of technical analysis. In fact, this first rule was introduced over a hundred years ago by Charles Dow, and is the foundation of all technical trading. He says this: all the fundamental data has already been included in the price of a share. In other words, the price is already reflecting that data. The theory here is that it doesn’t take long for people to figure out the basics. In fact, despite the special announcements, the basic fundamentals actually only change four times a year when a company announces earnings. So why does the price of a stock keep changing on a daily basis, sometimes changing drastically in a small period of time?
The answer is speculation. And that is what technical analysis observes. The reason a stock price moves despite relatively stable fundamental data is the extreme optimism, or pessimism, of people who trade that company regarding the future release of fundamental data. Ultimately, speculation is always fueled by human emotion. And since people tend to be creatures of habit, their emotions also tend to be pretty predictable. And this is what technical analysis studies in depth.
In the next remaining articles in this series, I will address the core data we look at when making technical trading decisions. This is what we are going to discuss:
- Stock price cycles and trends
- Charting your actions
- candlestick charts
- Trend lines and trend line construction
- Support and resistance zones
- technical indicators
- chart patterns
- market psychology
- moving averages
In just a few articles, you’ll learn everything you need to know about why technical trading is the best way to analyze your trades. This knowledge will not only make you a better trader, but also a much more profitable trader.