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Explaining The Term Technical Analysis

Aug 17, 2007
The study of a security's price action for the purpose of forecasting profitable price trends and movement is known as Technical Analysis. The price action is defined as movement in a security's price, volume, and open interest.

Technical Analysis is primarily, maybe not exclusively, conducted by studying charts of the recent past price action. Many different methods and tools are new in Technical Analysis, but they all rely on the superlative assumption that price patterns and trends exist in markets, and thus, that they can be identified and exploited too.

Technical Analysis does not try to analyze the financial data of a company, can say the cash flow, dividends and projection of future dividends, an area of analysis which is also known as the fundamental analysis. However, some speculators try to combine Technical Analysis as the elements from both technical and fundamental analysis.

Like any predictive method, Technical Analysis is not 100% accurate, but it surely attempts to give the presumable outcome. Some forms of Technical Analysis, like charting, are viewed by many of its practitioners as more art than science.

Some scholastic studies conclude that Technical Analysis has little predictive power while other studies show that the practice can produce excess returns too. For an instance, measurable forms of Technical Analysis non-linear prediction using neural networks have been shown to occasionally produce statistically significant prediction results.

Lets take an example to understand the debate regarding the efficacy of Technical Analysis, a very well-known and successful fundamental analyst, once commented that, "Charts are wonderful for predicting the past."

A Federal Reserve working paper has shown that the statistical properties of intraday foreign exchange prices change near the "support and resistance" lines, without showing that this result would be new in a profitable trading approach.

History Of Technical Analysts

The Technical Analysis premises were derived from observation of financial markets over a long period of time say hundreds of years. Perhaps the oldest branch of Technical Analysis is the use of candlestick techniques by Japanese traders at least as early as the 18th century, and are yet still very popular today.

Another theory based resting on the collected writings of Dow Jones, the co-founder and editor Charles Dow, inspired the use and progress of Technical Analysis from the end of the 19th century. Modern research considers Dow theory its foundation stone.

For Technical Analysis the technical tools and theories have been developed and enhanced in recent decades, with a raising emphasis on computer-assisted techniques.

Common Beliefs Regarding Technical Analysis

The Technical Analysis is not at all concerned with why a price is moving but rather whether it is moving in a particular direction or in a particular chart pattern. For example, poor earnings, difficult business environment, poor management, or other fundamentals.

The analysts of Technical Analysis believe that profits can be made by the concept of "Trend following." What is tried to pronounce here is that if a particular stock price is steadily rising, that is, trending upward then a technical analyst will look for opportunities to buy this stock.

Until the technical analyst is convinced this up trend has reversed or ended, all else equal, he will maintain to own this security.

Additionally, technical analysts during the Technical Analysis look for various price patterns to form on a price chart and will take positions in anticipation of the expected move following that pattern. The tools of the analysts are believed to assist the technician in determining when trends have formed, ended, and so on till particular patterns are unfolding.

Technical Analysis can be at odds with fundamental analysis. Fundamental analysis maintains that the markets can miswrite a security and, through various methods of fundamental analysis, the "correct" price can be calculated too.

Profits can be made by trading the mispriced security and then waiting for the market to distinguish its "mistake" and reprice the security. In contrast, a technical analyst during the process of Technical Analysis is not interested in a security's "correct" price, but is only in the price movement.

While Technical Analysis is done there are two well-known sayings among technical analysts that are, "The trend is your friend," and "Forget the fundamentals and follow the money." An example of the different views of technical and fundamental analysis follows.

Suppose a stock was trading at 124.25 pence, and that the accord fundamental analysis view of the stock was that it was worth 120.00 pence. If the share price rose to 125.00 pence, then to 126.00 pence, and then to 127.00 pence, a technical analyst during his Technical Analysis would likely be a buyer of this stock in order to profit from the perceived trend.

In contrast, a fundamental analyst would possibly look to sell the stock as it is moving away from what the fundamental analyst believes is the "correct" price.
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William Smith the author provides much more financial information on many subjects as well as the secret to his success in the market along with 5 Free power stock picks emailed daily so grab your Free subscription on his website at Technical Analysis (All is Free)
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