[vc_row][vc_column][vc_column_text]TA (Technical analysis) is the prediction of future price movements based on an examination of past movements. Like weather forecasts, technical analysis does not lead to absolute predictions of the future. Instead, technical analysis can help investors predict what is “likely” to happen over time. It is a tool, just like fundamental analysis.
The technical analysis applies to securities whose price is influenced only by the law of supply and demand. As a result, technical analysis is not appropriate when other forces can influence the price.
To be successful in a technical analysis, it is necessary to be sure that the value observed respects these two key assumptions:
>> High liquidity: liquidity corresponds to volume. Stocks that are heavily traded allow investors to enter and exit the market quickly, without radically changing the share price. Small-cap stocks are more difficult to trade because there are not many buyers or sellers at any given time. As a result, investors may find themselves changing considerably the price they want to trade at. Thus, low-currency securities are often very cheap (a few cents per security), which means that their prices can be more easily manipulated by individual investors. These external forces that affect low liquidity securities make them less suitable for technical analysis. In the crypto market, we will therefore always be interested in carrying out technical analysis on coins with a relatively high liquidity. That’s something you can check on CoinMarketCap for example.
>> No extreme news: The technical analysis cannot predict extreme events (a fork for example or the hacking of an exchange such as MtGox in 2013 which processed up to 80% of Bitcoin transactions). When the forces of the ” extreme news ” influence the price, traders are forced to wait patiently for the chart to stabilize and begin to reflect the new market reality.
So as we have seen, it is important to check before trading that these two key assumptions are respected. It should be noted that the analysis of a security whose price is influenced by one of the external forces is not unnecessary, but that its accuracy will be affected.
TA is not and will never be an exact science, it is a tool for developing an action plan. This plan can change, and a trader’s strength is to be able to adapt, without ever letting his emotions come into play.
What are the different weaknesses of technical analysis?
>> You, yes you. Knowing yourself is a key step when trading because one of the major risks in technical analysis is the analyst’s bias. Indeed, just like fundamental analysis, technical analysis is subjective and our personal biases can be reflected in our analysis. It is important to be aware of these biases when analyzing a graph. If the analyst is a perpetual “bull”, then a bullish bias will overshadow the analysis. On the other hand, if the analyst is an eternal bear, then the analysis will probably have a downward trend.
Let us quote a Greek proverb : “Gnothi Seauton”, from ancient Greek: know yourself.
>> The question of time. Technical analysis is often criticized because it is often too late. By the time you identify a reliable trend, the price has already changed. And of course you are now hesitating to enter the position because the risk/benefit ratio is no longer as good. As a reminder: you will find on our blog an educational article on how to trade in P&L risk as well as a video presenting our tool for intelligent trading using the Risk/Reward ratio!
>> Contra-indications: Even after a new trend has been identified, there is always an indicator that will contradict your analysis. Hence the importance of taking a step back from the indicators and having confidence in your analysis. And don’t forget that before entering a trade, your strategy must be clearly justified with pre-determined entry and exit points. The art of trading is to know how to be rigorous. Otherwise, you might as well go to the Casino and let the chance take care of you. The other situation that often happens is that traders only use technical analysis to see what they want to see.
>> Trader’s remorse: Not all technical analysis works. And that’s normal, don’t worry. Trading is not just about making winning trades, it is about ending up positive, thanks in particular to money management. Also note that it is normal to make mistakes when trading. The important thing is not to repeat them. To overcome this it is interesting to keep an Excel with all your trades: input/output/the different Take Profit, as well as a brief explanation of why you took the trade. Be rigorous.
To conclude this article I will quote Jesse Livermore – one of the greatest speculators of the 19th century. He used to say that there are moments to be long, moments to be short and moments to go fishing. Don’t overtrade, aim for the qualitative rather than the quantitative, especially if you are just beginning.
I hope you enjoyed this article and learned new concepts.
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