Technical Analysis is the study of stock charts based on price and time. The historical price and time is used to predict the future price. There are different methodologies used based on experience of different analysts through history.
Technical analysis should not be confused with fundamental analysis. Fundamental analysis is based on true value of a stock or commodity. Technical analysis on the other hand is based on sentiments or mass psychology. It may or may not mirror the true value.
Technical analysis can be divided into two broad methods. One is the trending analysis which includes momentum in some sense or the other. The other is the wave analysis. To understand the basic difference between the two , momentum or trending analysis always premises the continuous movement of stocks in the same direction unless proven otherwise. So if a stock is moving up, we will surmise that it will continue to move up until it moves down over a pre designated distance.
A trending analysis therefore cannot pre-empt a reversal. It is only when a reversal happens and stays there over a certain value that the trending indicators will call out the top or bottom as the case may be.
The wave analysis on the other hand studies the various patterns and wave counts and tries to call out the exact tops and bottoms. However the results are always subjective and different analysts get different results, though with varying degrees of success.
With over 20 years of experience in analyzing the markets, I have come to a few remarkable conclusions
- Results are better, if one learns and applies various methods at the same time. However it is important to know the important ones , and not waste time on the remaining. For eg there are about 200 odd technical indicators. It is important to use only the basic three and discard the others.
- What works
Use of select technical indicators , channeling techniques(equilibrium lines, patterns, wave analysis (both the Elliot wave analysis and the ABC mass wave proprietary analysis)
RESULT ORIENTED TRADING
Any trading will work which is based on time. If you hold something of value for a long period of time, you will make money in the end. However humans have a limited life span and we want to see results multiple times during our lifetime.
Stock markets have what are called derivatives, which have a built in time decay factor. These are called futures and options. This will be covered in later chapters.
It is the time decay facet of options that when combined with technical analysis , which gives us an edge on making money consistently over and over again.
This is covered in our chapter- Trading with options.
In any trading there will be always fear and greed. As analysis is never absolute, fear will always set in making all trading decisions emotion driven. This is the reason why I have chosen to have a special chapter on Fear Factor later in the book. Giving few excerpts below.
In discussing the fear factor, let us consider some very important sayings in the markets
- Catching a falling knife
A good fundamentally strong stock is falling for no particular reason. You buy at half the cost. It continues to fall and comes to a value which is a fraction of the initial value
- Trend is your friend
True , but depends on the time period one is using. A long term period trend may move the markets down substantially before it starts rising again. That downturn will show losses on paper. Will elaborate on this in the later chapter.
- Buy low sell high (Buy when others cry)
This sounds easier than done. Although correct , one gets fearful as calling the exact bottom is not that easy. However with good technical analysis one can call out the major tops and bottom.