Exchange Foreign Currency Online | Basic of Technical Analysis

What is technical analysis?

Exchange Foreign Currency Online

Technical Analysis is the thorough study of the data related to the past market to predict or look through the trends followed in the market globally and the same data is used to make crucial decisions for trading or investments. The market information is inclusive of process, volumes, open interest (futures and options), market breadth, market cycle, the flow of funds, and the study of investor’s sentiments etc. The role of the Technical Analysts is not to do the study of companies’ data, political development, economic data and market events and news in comparison with economists better known as fundamental analysis; as they primarily focus on the action of the market rather than the goods in which the market is dealing.

How does technical analysis work?

The Technical Analysis predicts that costs are evaluated by the composition of supply and demand. The primary reason that fastens up the demand and supply is purely on the basis of expectations of the investor which are dependent upon the human’s emotions (mainly greed, hope or fear). The reasons behind the investor’s expectations are multiple which have nothing to do with a technical analyst. This explores the real logic behind technical analysis ‘price discounts everything’ (the discounting mechanism in the industry). It is a firm belief of technicians that any small object that has the probability to impact the price – fundamentally, politically, psychologically or can be witnessed in the market. So the concentration shifts in analyzing the chart of the price than studying the real motives empowering the decisions.

The next crucial concept in the Technical Analysis is the ‘prices move in trends’. The primary motto of the technical analysis is to discover and analyze the trends in different time windows and trading in the direction of the trends. Identifiable designs are discovered inside these trends. Also, the psychology of investors’ is expressed in various patterns which have been discovered in the last one century in the industry. The technical analysis strongly supports the fact that the history repeats itself. One of the major prediction is that the patterns are fractals in nature. It implies that the identical patterns are created in smallest to largest time windows in a loop. Hence the technical analysis gives a detailed study to these patterns and then try to replicate the direction of trends in various time windows.

Concepts of trend - types of trend

Technical Analysis is better termed as the analysis of trends in various time windows. They can be categorized into three types – uptrend, downtrend and sideways trend. An uptrend can be defined as price makes the series of continuous higher peaks and troughs whereas the downtrend is set up with an order of reducing peaks and troughs. The horizontal peaks and troughs will make a sideways trend. The entire concept is depicted in figure 1:

The market has always been under the impact of amalgamation of these three types of trends in various time zones. As it can be seen in figure 2, the currency pair of EUR/USD was in the uptrend in daily time frame while it was witnessing downtrend in the weekly timeframe. The traders should put the emphasis on confirming the direction of the trend in the time frame in which they have a plan to invest. The figure 2 combinations of trends that exist in multiple timeframes.

Support and resistance

One of the next key chapters in the trend analysis is support and resistance and it becomes extremely important for the TA dependent traders as their risk control level (exit) is decided with the ground of key support/resistance which dictates the trend direction. Hence, the identification of support and resistance level is a necessity for the successful completion of technical analysis.

As it has been discussed in the last segment, the prices made to the higher troughs (support) makes uptrend and higher peaks (resistance). A support level is the estimated price at which buyers are forecasted to enter in the market in such a situation where they can take over from the buyers. In order to continue an uptrend, each successive support should be more than the preceding it and every resistance must be greater than its previous one. In the scenario of weakness in the uptrend reverse back to the previous low, it is the early warning that the sideways trending is just about to begin and the uptrend is one the ending part. If in case the support is broken, it indicates that the trend has reversed from up to down. The detailed understanding of support/resistance theory is the major aspect of following the concept of trend. Another feather of the support/resistance is that the support levels once shoot, frequently becomes resistance and the vice-versa follows. As it can be seen in figure 3, their roles have been reversed. Figure 3 depicts a real-time example of support/resistance.

The strength of support/resistance given fundamental importance to the s/r which is decided by the numerous factors:

The times on which the level has been respected.

The amount of volume that has been traded near the level.

How old or new the level is – recent levels have higher significance

Whether the level reaches new high or new low – more extreme level have more impact

Level forming near the round number carries more effect

Trendlines

The easiest and oldest way to evaluate the trend of prices is a “trend line”. These lines can be drawn by using just a ruler and with one’s eye. All this is required to two/three support reversal points to draw an uptrend or two/three resistance reversal points to draw a downtrend. A simple line that is drawn between the reversal points, as depicted in figure 4 and 5, identifies the trend continuation and reversal clearly.

Figure 4 simple trendline break confirms the reversal of nzdjpy’s 8-year uptrend.

Arbitrary rules to be applied to trend line studies are:

If a trend line is drawn by combining 2 points, it should be considered as a tentative trend line. When it is used for the third time, it will become a valid trend line.

A trend line break need not turn to trend reversal, it could lead to pause in trend or consolidation.

The longer or more times the drawn trendlines are touched by prices, the more significant it is when the line is broken.

The slope of a trend line is also a major criterion. The 45-degree slope is the ideal for a stable and sustainable trend. If the slope turns too steep, the trend is unsustainable for the longest time. The trend is judged to be too weak if the slope becomes flat.

Similar to the support and resistance, the trend lines also reverse their role once it is broken, if an uptrend line is broken, it will become resistance line and vice versa will follow.

Trend channels

Trend channels are one more key concept of trend line concept and the prices trend between two parallel lines, that basically are – baseline and channel line as can be seen in figure 6. In this concept, the baseline is homogeneous to uptrend/ downtrend line whereas the channel or return line is the parallel projection which may be opted for a short-term benefit-taking region. The acceleration of trend may occur when the channel gets choked and sometimes it will end up as depletion of the trend.

The figure 6 EUR/JPY has faced a monthly downtrend channel from the period of 1982-2005

Chart price patterns

Chart price patterns are the technical analysis tools that are used all around the world and are one of the oldest tools that have ever existed. These patterns operate in recursion formations issued in the price charts which have prognostic value (measuring implications). If formation completes then price targets can be estimated from the breakout price. The target has been calculated by clutching the height of the pattern and then making it sum with the breakout price. A major percentage of the technicians don’t give much value to the targets as their primary aim to focus is being on the right side of trend and desire to lead that trend. There are basically two major groups of patterns i.e. Trend reversal and trend continuation patterns.

Trend reversal patterns

As it can be seen with the name, trend reversal patterns are those patterns which make the opposite of the established trends that have already been laid. The patterns form both top (reverse uptrend) and bottom (reverse downtrend). General points that are applicable to all reversal patterns are:

An established trend must exist in order to get reversed.

The very first signal of an impending trend reversal is the breakdown of an important trendline support/resistance.

The greater the pattern, the larger the subsequent move is going to be.

Topping patterns are usually shorter in duration and more volatile than bottoms.

The bottom, in general, has smaller price ranges and take more time to build.

The volume plays the key role in the formation of the bottom.

With these principles, let us explore the important and commonly occurring trend reversal patterns. Major trend reversal patterns are:

Head and shoulders (top formation) & inverted head and shoulders (bottom formation)

Triple tops and triple bottoms

Double tops & double bottoms

Triangles

Diamond top

Wedges

Rounding (Saucer) bottom and cup and handle bottom

Head and shoulders top & inverted head and shoulders bottom

The head and shoulders pattern is likely the most renowned and trustworthy technique. The head and shoulders top pattern is a progression of three all-around characterized tops with the second pinnacle higher than the first and third pinnacle. As observed from figure 8, the market makes the main peak (left shoulder) and rectifies to the neck area and after that rally to influence a higher peak (to head) and right back to the neck area and influences a lower to the top (right shoulder) in its last rally endeavor. The pattern is confirmed to be finished when the market breaks the neck area. In basic rationale, the supply (bears) and demand (bulls) are adjusted at the neck area. The principal indication of bull’s shortcoming is flagged when the market influences lower to crest at the privilege and the break of neck area confirms the begin of bear incline.

Volume assumes a key part in the improvement of h&s top example. Typically, the rally to the head and right shoulder are built with lesser volume than the left shoulder and head separately. Some of the time, market take into account the retest of neck area in the wake of breaking the neck area. While utilizing the example, merchants ordinarily search for offering the opportunity at the right shoulder development and at the break of the neck area. Generally, safe offering opportunity would be offered if the retest of neck area happens. An inexact focus for the new downtrend could be acquired by estimating the separation from the highest point of the make a beeline for the neck area and anticipating this down from the neck area. As examined before, targets ought to be dealt with as guide presents and patterns tend on move well past the objectives.
Figure 8 resolution of Head and Shoulders pattern was followed by a mini-crash in emini s&p during Aug ’11.

The inverse head and shoulder pattern is an identical representation (Mirror Image) of head and shoulder pattern and it is a bottom development. The essential distinction between the top and bottom patterns is volume. Volume assumes the more basic part of the inverse head and shoulder pattern and there ought to be the extensive increment in purchasing volume when the new uptrend begins. Figure 9 NZD/JPY influenced a noteworthy base in 2001 with inverse head and shoulders to design. It ought to be noticed that the pair’s uptrend had run well past the pattern target.

Triple tops & triple bottoms

Triple tops and bottoms are hard to found and it is marginally not the same as h&s and inverse h&s patterns. The three peaks/troughs are at about an indistinguishable level from restricted to h&s design. The greater part of the focus talked about in h&s segment are legitimate for this example too. The pattern ends when the value breaks the neck area. Volume contemplations and target figuring are like h&s design. Merchants may take the position on the third trial of the best/base or after the break of neck area or on the retest of the neck area.

E basic part of the inverse head and shoulder pattern and there ought to be an extensive increment in purchasing volume when the new uptrend begins.

Figure 10 AUD/JPY took very nearly a year to shape a triple top pattern and the determination of the pattern prompted a crash in 2008.

Double tops & double bottoms

Double tops and bottoms developments are the least difficult of the outline patterns and simple to discover. This is additionally one amongst the slightest dependable and minimum beneficial patterns. These are generally known as ‘m’ tops and ‘w’ bottoms and highly overused. A double top comprises of three inversion points: two tops (slightly above or below the same level) relatively separated by a trough and to complete the pattern, the cost must break underneath the trough on the closing basis (see figure 11). The volume is typically lighter while creation of the second top and the objective price is computed by anticipating the height of the pattern to the trough level.

Figure 11 usdsgd’s, the major top was formed by double top pattern in 1985-1987.

The double bottom pattern has the indistinguishable features from the top but is upside down (see figure 12) and the volume must ascent amid breakout. The due contemplations must be given to the time between the two tops/bottoms. Reliable tops and bottoms must have a minimum of a month gap between the two tops/bottoms.

Figure 12 eurusd took around 2 years to form a major low with the double bottom pattern in 2000-2002.

Triangles

Triangles are created as opposite patterns in addition to continuation patterns. The formation of a triangle is done in a range with lower and upper boundary lines converge to the right side. A break out in the triangle boundary envisions the reversal of the trend as can be seen in the figure below. The target is extracted by projecting the height of the triangle at the base to the left to the breakpoint. The triangles are dealt in elaboration in continuation pattern section.

The figure 13 USD/CAD 2009 top was created in an increasing triangle top pattern.

Diamond top

Diamond Top is one of the less regular but exceptionally productive examples (go through figure 14). It is comprised of an addition of a widening design and a symmetrical triangle and for the most part, happens at the peak of a sharp upward ascent in expenses. It is uncommon at cost bottoms.

Figure 14 eur/jpy remedied its sharp uptrend by shaping a Diamond Top.

Wedges

A wedge design is a triangle design with both pattern lines heading a similar way. A rising wedge has the two lines headed upward, with the lower bound rising more rapidly than the upper bound. The declining spikes or wedges have the two lines headed descending, with the upward bound falling more rapidly than the lower bound (see figure 15). The lines meet in the right, similarly as in a standard triangle. Wedges resemble triangles, can be the continuation designs and in addition, can be inversion designs. On the off chance that the wedge or spike-shaped after delayed pattern, the inversion is probably going to be emotional. Elliot wave examiners call wedge as ‘finishing corner to corner the fifth wave’ to finish an Elliot wave cycle.

Figure 15 eur/jpy made an emotional inversion in nov’00 subsequent to framing a falling wedge design.

Rounding (saucer) bottom & cup and handle bottom

Inversion designs once in a while take the state of saucers or adjusting bottoms. A rounding bottom infers moderate and steady abandon down to sideways to up (continuous collection by bulls). Rounding or adjusting takes times with numerous seesaws and once in a while, it is hard to spot breakout level. Its variety cup and handle design give exact passage level as appeared in figure 16. The arrangements demonstrate are a variety of the adjusting base that demonstrates a little clog territory/pullback after the ascent from the base which is called as the handle. The top of the handle is the protection level to look for an upward breakout. Adjusting tops are very uncommon examples contrasted with bottoms.

Figure 16 aud/usd influenced a noteworthy base in 2002 by framing a cup and handle design.

Trend continuation designs

Trend continuation designs are the gathering of sideways value activity designs that create amid delaying time of the predominant pattern. Once the examples are finished, the current pattern will proceed an indistinguishable way from restricted to inversion designs. These examples additionally take substantially lesser time span than inversion designs. Real basic pattern continuation designs are:

Wedges

Rectangles

Triangles

Head and shoulders and opposite head and shoulders

Triangles

Triangles as continuation designs are framed when free market activity coordinate after a solid pattern or trend. Triangles are characterized by two merging lines or limits. The upper line associates at least two pinnacles while the lower line interfaces at least two troughs. Triangles are arranged into three kinds in accordance with their shapes. They are also known as symmetrical triangles, ascending triangles and descending triangles.

The symmetrical triangle (prominently known as the coil) has two uniting trend-lines; one is rising and another is dropping as appeared in figure 17. The objective is determined by anticipating stature of the triangle (broadest part estimated at the left side) from the breakout point.

Usually, volume has a tendency to decrease amid the arrangement of triangle and increment while breaking out. The expansion in volume is basic for a bullish breakout but a bit much for bearish determination (cost can fall without anyone else weight). Pattern merchants hope to start positions on the break of triangle support/resistance line.

Figure 17 aud/usd’s multi-month slant continuation design was created in a symmetrical triangle.

In an ascending triangle, the upper trend-line is generally level while bringing down trend-line has rising incline as appeared in figure 18. With the rising lower trend-line, the ascending triangle gives more edge to bulls.

Figure 18 usd/cad framed a multi-month bullish climbing triangle design amid 2008.

Descending triangles are the identical representation of rising triangles with plummeting upper trend-line and level lower trend-line as appeared in figure 19.

Figure 19 usd/chf had proceeded with its sharp downtrend with a 4-month diving triangle design amid 2002.

Rectangles

In the rectangle continuation design, the trading/consolidation go is bound by two parallel flat lines. A break over the upper/lower down limit line flags the pattern resumption as appeared in figure 20. Target is inferred by anticipating the tallness of the exchanging range from the break-line.

Figure 20 usd/chf framed 2-month bearish rectangle continuation design amid 2011 and the break-line was retested twice.

Wedges

As talked about before, wedge design is like a triangle with meeting trend-lines however it has the observable inclination against the current pattern as observed from figure 21. So a falling wedge frames in a bull pattern and rising wedge shapes in a bear slant.

Figure 21 gbp/jpy shaped a bearish rising wedge design in the center 2007-2009 bear incline.

Head and shoulders & inverse head and shoulders continuation patterns

We have examined about h&s design in detail in incline inversion designs section. The h&s and converse h&s examples can likewise happen as a pattern continuation designs. A case has appeared in figure 22.

Figure 22 determination of an h&s continuation design brought about sharp auction amid 2001 bear drift.

Minor trend continuation price patterns

Minor pattern continuation designs are like pattern continuation designs but their term is little; not over 3 weeks. They create a respite after unique patterns. The examples fall under this class are banners, flags, and wedges and they show up in day by day and hourly graphs. These are very basic examples which are solid. After the finish of the examples, markets tend to move in the first course. Merchant must utilize these examples to make position toward the fundamental pattern.

A banner or flag example resembles a banner on the diagram. It is shaped with two parallel lines (either straight or slanting against the pattern) as appeared in figure 23. Volume regularly decreases amid the arrangement and the break of banner pattern line flags the resumption of a unique pattern.

Figure 23 nzd/usd had framed two banner examples amid 2009 uptrend. These solidifications offered decent chances to ride the uptrend.

Flags are like banners yet they are framed with two joining trendlines.pennants are only little triangles as appeared in figure 24. We have examined about wedges in before areas. The example can likewise happen as a minor pattern continuation design has appeared in figure 24.

Figure 24 usd/sgd had shaped two flag designs amid 2010 downtrend.

Figure 25 nzd/jpy had shaped a 3-week bearish rising wedge as a minor pattern continuation design.

Technical Analysis is a huge and regularly extending field of study. We have secured a short prologue to the field to give a take-off platform to your examination. There are numerous more strategies/contemplates like moving midpoints, markers, Elliot wave, Intermarket examination, slant thinks about, cycles, Gann strategy, candle studies and point and figure diagramming and so on. We urge our clients to investigate further to advance their trading devices and search for instructive online courses to be given by our instructive/explore accomplices. We wish you good fortunes in your exchange.