| Charting price data is very
important. Charts shows you the history of the currencies behaviour over
time and therefore provides much more information than simply looking at a
single quote of the present rate. Adding technical indicators to the
charts allows you to view the price data in an alternative manner which
yields even more information. Therefore, it is important to know at least
the basics of technical analysis and the information you can gain from it.
There is a multitude of information
available about technical analysis on the Internet. Therefore, it is not
necessary to rush out and buy a number of books on the subject. On this
web site we seek to provide an introduction to the subject only to enable
readers to research the subject themselves more fully.
What is technical analysis?
Technical analysis comprises a number of
different techniques:
- Price data can be represented as lines,
candles, bars or point and figure (P&F) charts. Each
representation yields unique information about the data.
- Trend, channel, Fibonacci, Gann and
other lines can be plotted on the charts to delineate and clarify
price trends, ranges or other patterns.
- Technical indicators can be calculated
and plotted on or under the charts.
Trend Lines
Trend lines are drawn by joining the lows
(support line) or the peaks (resistance line) of the price data. This
helps to clarify existing trends and produces clear exit criteria as the
trend has ended when the price breaks through a resistance or support
line. The problem with trend lines is that you are only able to draw them
once a trend is well established, by which time it is too late to enter a
trade. Also, trend lines are very subjective, no two people will agree on
exactly where they should be drawn. This allows emotion to creap into your
trading.
What are technical indicators?
Technical indicators are mathematical
constructs which aid the trader in interpreting a graph of a particular
currency pair. Indicators can be used to gain more information about the
price movement but can also provide entry and exit signals in a trading
system. There are two main kinds of indicators: leading and lagging
indicators.
Lagging Indicators
Lagging indicators usually smooth the price
data and therefore produce information which lags the movement of the
currencies. These indicators are most useful in trending markets. Some of
the more popular examples of this type include moving averages and
Bollinger bands.
Moving Averages
Moving averages are simply averages of the
price data over a certain period of time. Averages calculated over shorter
periods vary more greatly with time than longer term averages. Where the
shorter average crosses the longer one, an entry/exit signal into/from a
trend is denoted.
Bollinger Bands
Bollinger bands create an envelope around
the price movement based on the standard deviation or volatility of the
currency pair. Therefore the bands widen during times of violent market
movement and tighten when the markets range.
Leading Indicators
Leading indicators claim to predict market
movement. They measure how "overbought" or "oversold"
a currency pair is and assume that they will reverse, as is common in a
ranging market. Following these indicators is riskier than the lagging
indicators as they attempt to predict price behaviour. This contrasts with
one of our basic principles which
states "Don't predict the markets - rather follow their lead".
Therefore, in our opinion this type of indicator yields useful information
but is not ideal as a source of entry or exit signals in a trading system.
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