Technical Analysis

Introduction to Technical Analysis

Technical analysis is research of market dynamics that
is done mainly with the help of charts and with the purpose
of forecasting future price development. Technical analysis
comprises several approaches to the study of price movement
which are interconnected in the framework of one harmonious
theory.

This type of analysis studies the price movement on the market
by means of analyzing three market factors: price, volumes,
and, in case of study of futures contracts’ market, of an open
interest (number of open positions). Of these three factors the
primary one for technical analysis is the prices, while the
alterations in other factors are studies mainly in order to confirm
the correctness of the identified price trend. This technical theory,
just like any theory, has its core postulates.

Technical analysts base their research on the following
three axioms:

Market movement considers everything
This is the most important postulate of technical analysis.
It is crucial to understand it in order to grasp rightly the
procedures of analysis. The gist of it is that any factor that
influences the price of securities, whether economic, political,
or psychological, has already been taken into account and
reflected in the price chart. In other words, every price change
is accompanied by a change in external factors.

The main inference of this premise is the necessity to follow
closely the price movements and analyze them. By means of
analyzing price charts and multiple other indicators, a technical
analyst comes to the point that the market itself shows to her/
him the trend it will most likely follow. This premise is in conflict
with fundamental analysis where the attention is primarily paid
to the study of factors, and later on, after the analysis of the
factors, to conclusions as to the market trends are made. Thus, if
the demand is higher than the supply, a fundamental analyst will
come to the conclusion that the price will grow. Technical analyst,
however, makes her/his conclusions in the opposite sequence:
since the price has grown, it means the demand is higher than the
supply.

The prices move with the trend
This assumption is the basis for all methods of technical
analysis, as a market that moves in accordance with trends
can be analyzed, unlike a chaotic market. The postulate that the
price movement is a result of a trend has two effects. The first
one implies that the current trend will most likely continue and
will not reverse itself, thus, excluding disorderly chaotic movement
of the market. The second one implies that the current trend
will go on until the opposite trend sets in.

The history repeats itself
Technical analysis and studies of market dynamics are closely
related to the studies of human psychology. Thus, the graphical
price models identified and classified within the last hundred
years depict core characteristics of the psychological state of
the market. First of all, they show the moods currently prevailing
in the market, whether bullish or bearish. Since these models
worked in the past, we have reasons to suppose that they will
work in the future, for they are based on human psychology
which remains almost unchaged over years. We can reword
the last postulate — the story repeats itself — in a slightly
different way: the key to understanding the future lies in
the studies of the past.

Happy learning.