History
Among various methods financial analysts utilize for forecasting the markets, the two most common methods are fundamental and technical analyses.
All in all, different technical theories can be viewed as puzzle stones, the combination of which should lead us to the ultimate goal of technical analysis - the set-up of the highest probability scenario for a specific market direction.
Everything there is to know is already reflected the markets through price. Prices represent the total sum of hopes, fears and expectations of all participants. Interest rate movements, earnings expectations, revenue projections, presidential elections, product initiatives and everything else is already priced into the market. The unexpected occurs, but usually this affects only the short-term trend. The primary trend remains unaffected.
Principles of Technical Analysis
Technical analysis predominantly uses charts to forecast future price movements. Nowadays it is not necessary to draw charts on paper as the process is automated by specially designed computer programs.
There are three sources for the technical analysis: price, volume and open interest (only for the future contracts).
Principles of technical analysis are the following:
- Price discounts everything. Price is affected by economic, political and other factors, and all information is already reflected in it. Technical analysis utilizes the information captured by the price to interpret what the market is saying with the purpose of forming a view on the future.
- Price movements are not totally random, or prices trend. The main purpose of the charts is to define a trend at an early stage and to trade in accordance with its direction.
- History repeats itself. The techniques which were effective in the past can be still effective to forecast future price movements.
Dow Theory
ReplyDeleteInitially, principles of the Dow Theory were used only for the American indices created by Charles Dow: Transportation and Industrial. Most of them, however, can be successfully applied to the foreign exchange market.
* Indices discount everything. According to Charles Dow any factor which influences demand and supply will be reflected in the index. These factors cannot be foreseen but nevertheless they are taken into account by the market and reflect index behaviour.
* There are three movements on the market. Uptrend is characterised by the fact that every following top is higher then the previous one and every next bottom is higher then the previous one. Downtrend is characterised by the fact that every following top is lower than the previous one and every bottom is lower than the preceding one. When the market is in the flat position every next move (up or down) is approximately at the same level as the preceding one.
The difference between technical analysis and fundamental analysis is that technical analysis ignores fundamental factors like news and economic conditions, and is applied only to the price action of the market. Forex technical analysis primarily consists of a variety of Forex technical studies, each of which can be interpreted to help predict market direction or to generate buy and sell signals.
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