Thursday, January 03, 2019

Basics Of Technical Analysis for Beginners

Technical analysis has been a cornerstone of my journey in the markets, which spans over a decade now. I have learnt a lot over the years sometimes by voluntarily by studying books, videos and courses and sometimes involuntarily when markets gave me a slap on the wrists for being complacent.

But this journey has been great and technical analysis has now become my life. I am crazy about it and thought it would be nice to share my views on this huge topic...

What is technical analysis?

In simple words, it is the study of prices, how they behave and what they indicate about what the market is doing right now. Some people boast of having predictive powers and go on giving targets and predicting future market developments. The funny part is they say technical analysis of some sort helps them do this, but I completely disagree with them and warn you to stay away from such charlatans...

All technical analysis can do is give you the current market situation, who is winning right now buyers or sellers, that's all. And this also is possible because prices are nothing but traders behaviours reflected in their actions of buying and selling. So technical analysis, notwithstanding all the maths involved in it, at the end of the day is the analysis of human behaviour. Price is just a proxy...

What is the purpose of technical analysis?

The basic element of any TA study is price and we add one more crucial element volume to it. By combining the two factors you can know all there is to know about the current situation of the markets.

Some may ask if we can't predict what is going to happen in the markets in the near or distant future then how can we hope to make a trading decision of buying or selling. Well to help you deal with this point I have shared my unique perspective on risk in this article here...

Its all about understanding the current risk in the markets of holding a long, short or a flat position. If you can define those risks then it is a matter of intelligent betting and no one can stop you from making money.

To help you take those intelligent bets you need to master price and volume, the two basic elements of markets. Let's now see how the two elements are used to help you make that assessment...

Basics Of Technical Analysis

Ok, so how do you make money in the markets?

The only way to make money in the markets is by creating a price differential. - Dean

What do I mean by that is if you are buying then you need the price to go up to make money and if you are selling you need the price to go down to make money. The price differential is nothing but the difference between your entry price and your exit price.

If the price differential is in your favour you make money if however, it is not then you lose money...

To create a price differential you need a trend in the prices. That is if you buy you want the subsequent prices to trend up and vice versa. Unless there is a trend it is difficult to make money in the markets.

Then we come to the crucial element of volume if the prices are trending up or down, the volume gives us clues to whether it will continue moving up or down. If the volume is not supportive of the current trend, we get an advance warning to abandon our positions and look for other better opportunities.

What is the difference between technical analysis and fundamental analysis?

Now there is another form of analysis called as fundaments analysis. This type concerns itself with analysing the business behind the share prices. The simple logic is if the business is doing good the share price will eventually go up and vice versa.

This way of analysing the markets is a science in itself. The only issue is the information flow and trader expectations. Let me give you an example...

You are bullish on an IT stock and you expect the quarterly results that the company is going to announce in near future are going to be good, aka profits are supposed to increase. Your analysis shows that the growth may be as high as 10% QoQ.

Now the results are announced in the evening and you come to the markets next day eager to reap your profits. As the results were as per your expectation, but to your dismay, the prices fall. You wonder what happened, two things happened...
  1. The results were good, however, were not as per the expectations of the traders and investors, they expected more. So even though the profits suggested higher prices the unfulfilled expectations made traders sell the stock.
  2. Second, those with inside information may have acted in advance. Though this is not legal, if you are watching the markets for any length of time you know this kind of things keeps happening in the markets.
So even though in the longer term the prices do converge on the intrinsic value it has on account of its business fundamentals, in the shorter terms the emotions get the better of the fundamentals. so even if you are a fundamental investor, it is advisable to keep tabs on what the prices are doing...

Types of technical analysis?

There are many ways you can study the behaviour of price. I am listing as many technical analysis methods I can remember and have dabbled in at one point or other in my career here...

  1. Simple bar (OHLC) charts of price and volume.
  2. Trend lines and channels.
  3. Moving Averages.
  4. Technical Indicators derived from price and volume.
  5. Price patterns.
    • Classical chart patterns.
    • Harmonic patterns.
    • Elliott wave theory.
  6. Price action trading.
  7. Point and figure charting.
  8. Market Profile.
  9. Order Flow Analysis.
  10. Volume spread analysis.
  11. High-frequency trading.
  12. Algo trading.
There are many more of these and you can help expand my list, just write the method that I may have missed in the comments window below and I will append the list.

So there are so many ways you can actually analyse the markets. Some of the above are concepts and theories and some are just a novel way of charting the same price data. You will be surprised the amount of additional information revealed when you arrange the prices in a different way.

What is the technical analysis of stock markets?

Technical Analysis Of Stock trends - Edwards and Magee, this is one of the books every technical analyst must read. There are many many more but this one I find particularly indispensable.

Applying these analysis techniques to stocks we can find out what they are doing in the present and make an assessment of risk in holding a long, short or flat position. But same techniques can be applied to stock indices. they work on anything which has a decent enough following and interest of traders.

Technical analysis tools?

Well, all the methods we discussed above need one thing and that is a good charting platform and a reliable data feed. Let me explain both of them in more detail...

1. TA Software

There are many software which can help you plot the above charts. Some of them are specialised ones and need dedicated platforms or add-ons to standard platforms. Nowadays broker terminals also come laced with these TA tools, well most of them.

I personally have used Amibroker in the past and presently I am using Ninja Trader 8. You can click on respective websites to find more about them.

2. Real-time Data

For data, that is real-time data I rely on Global data Feeds Ltd. They provide real-time data for NSE Cash and FnO Segment as well as Commodities and Currencies. So you can choose the markets of your choice.

What is the best indicator in technical analysis?

That is a question which has resulted in many controversies in the past. There is no one best indicator or method. You have to invest time in learning them and then settle with the one that makes your life easiest.

Some prefer using price action and yet some use Elliott wave theory. I myself used both of these for quite a long time and then finally settled for Market Profile charts. It's not like one is better than the other, but the way MP answers my questions or rather helps me ask the right questions of the markets, no other tool enabled me to do so.


In coming days hopefully, I will be able to discuss these individual methods and their pros and cons with you in greater detail. That should help you pick the right one for your trading. Till such time you can always ask me your doubts and queries in the comments section below.

Also, if you have someone you know just starting out in this field, please pass on this article to him so that he can get a broad idea as to what technical analysis is all about. So go ahead and share this on your social media accounts so that your friends and colleagues can find it, because...

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