In this article, we break down several aspects of technical analysis to uncover the valuable insights of trading. Throughout this article, you will gain understanding of:
👉 Common Types of Charts
👉 Different Timeframes
👉 Trends
👉 Support and Resistance
👉 Candlestick Chart Patterns
Technical analysis involves the visual examination, interpretation, and prediction of price movements by analyzing historical patterns and statistical data, often presented in the form of charts. Its primary objective is to identify potential trading opportunities within financial markets.
1. Charts
The trading chart demonstrates essential information to assist you in determining the optimal times for entering and exiting a position.
Candlestick Charts
Candlestick chart, also known as K-line chart, is formed by plotting the open, high, low and close prices for each analysis period. This type of chart is usually demonstrated in two different colors, one representing a bullish candlestick and the other a bearish candlestick. Most traders prefer candlestick charts because of the depth of information that each stick can convey. It helps to identify the current state of the market at a glance. Just by looking at the length and colour of the candlestick, traders can determine instantly if the market is strengthening (becoming bullish) or weakening (becoming bearish).
Bar Charts
Bar chart is also a type of chart that offers four crucial pieces of information for trading. It demonstrates the opening price, the highest and lowest prices during the period, and the closing price. The vertical line is created by high and low prices observed during the specified time period. And, the dash located on the left side of the vertical line represents the open price. Conversely, the dash positioned on the right side of the vertical line represents the close price.
Line Charts
Among various chart types, the line chart is the simplest and most basic type. A line chart is usually easy to identify, because they are formed by directly connecting a series of price data points and displaying only the closing price.
The line chart is considered less useful for trading as it provides limited information. For example, it does not show important details such as open, close, high, and low prices, which are useful in sending signals.
All of the charts described above are drawn based on the bid price. When executing a buy order, you will notice a difference between the price you have been filled and the visual price displayed on the chart. This is because buy orders get executed at the ask price, while charts only show the bid price. Consequently, it's crucial not to rely on them to determine where the ask price was at any given time. You can learn more about charts here.
2. Time Frames
Time frame refers to the duration it takes for each candle and bar to form and the amount of data it includes. For instance, a time frame of H1 (1 hour) shows the fluctuations of the bid price within one hour.
You can customize the time frame for each chart in your trading platform such as 5 minute (M5), 15 minute (M15), 30 minute (M30), 1 hour (H1), 4 hour (H4), Daily, Weekly or Monthly and so forth.
Below shows how the price data look when you adjust the time frame:
In general, shorter time frames are often associated with generating more trading signals, but a significant part of these signals may turn out to be false or less reliable. In contrast, longer time frames tend to provide fewer signals, but the signals they generate are typically more significant and stronger for identifying a particular trend.
3. Trend
A trend reflects the direction in which prices are changing based on their historical movement. Trends are made up of peaks and troughs. It is the direction of these peaks and troughs that forms the trend of the market. Whether these peaks and troughs are moving up, down or sideways indicates the trend’ direction.
Identifying the direction or trend of the market is one of the basic techniques of analysis. Sometimes, a quick glance at the chart is sufficient for identification. Other cases will require more in-depth analysis of the price data. There are 3 directions of market trends:
Uptrend
An uptrend is made up of ascending peaks and troughs. Higher highs and higher lows.
Downtrend
A downtrend is made up of descending peaks and troughs. Lower highs and lower lows.
Sideways Trend
A sideways trend (consolidation) is when prices move sideways in a horizontal range.
Identifying a trend can be as simple as drawing a straight line in the direction of price movements on a chart. Conventionally, an uptrend line is formed by drawing a straight line through a series of ascending higher troughs (lows). In a downtrend, a trendline is formed by drawing a straight line through a series of descending lower highs. And, "trend lines" are commonly found in nearly every trading platform and can be seen as user-friendly tools for beginners in technical analysis. It's one of the many tools and techniques available.
4. Support and Resistance
Support and resistance are one of the most commonly used techniques in technical analysis. It revolves around a concept that is ‘easy to understand but difficult to master’.
Support
The support level is where the price regularly stops falling and bounces back up when it encounters strong support in the process of falling,
Resistance
The resistance level is where the price normally stops rising and dips back down.
These price levels do not last for long periods of time, and sometimes a "breakout" or a “breakdown” in one direction will occur. A price movement through an identified resistance level is called a breakout. Its bearish counterpart is known as a breakdown - a price movement through an identified support level. Both breakouts and breakdowns are usually followed by an increase in volatility.
Finding support and resistance levels able to help traders to determine when and in which direction a position should be opened, as well as the potential level of profit or loss.
In range-bound market conditions, traders commonly seek opportunities for long positions when price bounces off from support levels and short positions when price bounces off from resistance levels. However, levels of support and resistance are not always perfect lines. The historical price data shows that the prices have not always followed the bounds of support and resistance. Therefore, traders should consider setting stops below support when long, and above resistance when going short.
Open an account with Lion Brokers to get started and familiarize yourself with our platform.
5. Candlestick Chart Patterns
There are numerous candlestick patterns that can signal potential market opportunities. Some of these patterns offer insight into the balance between buying and selling pressures, while others highlight continuation patterns or market indecision.
Bullish Candlestick Patterns
Bullish patterns may appear after a market downtrend, and indicate a potential reversal in the direction of price movement. Traders can use them as a guide to consider opening a long position to profit from any upward trend.
Bullish candlestick patterns include the hammer, the inverse hammer, the bullish engulfing, the piercing line, and so on.
Bearish Candlestick Patterns
Bearish patterns usually appear after a market uptrend, and indicate a point of resistance. When there is heavy pessimism about the market price, traders may typically close their long positions, and open a short position to take advantage of the falling price.
Bearish candlestick patterns include the hanging man, shooting star, bearish engulfing, even star and so forth.
Others candlestick patterns comprise doji and spinning top, which falls under the category of continuation candlestick patterns. To learn more about candlestick chart patterns, you can explore further information here.
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