Disclaimer: The opinions expressed here are for general informational purposes only and are not intended to provide specific advice or recommendations for any specific security or investment product. You should never invest money that you cannot afford to lose. Before trading using complex financial products, please ensure to understand the risks involved. Past performance is no guarantee of future results.
Today we will start a new series on our blog aiming to explain the basis of technical analysis and the importance of price action (with support and resistance concepts). This series is divided into eight chapters which will be spread over eight blog posts (Chapters) :
- 1: Technical Analysis: the Basics
- 2: Support and Resistance Foundation
- 3: Support and Resistance with Multiple Time Frames and Rules to Draw
- 4: Time-Frames Confluence
- 5: Market Conditions
- 6: Trend Lines
- 7: Indicators
- 8: Money management
The goal of the blog series is to explain how to build a strategy based on price action, code the strategy on Tuned, backtest it on market data and analyze the results.
Chapter 1: Technical Analysis – The Basics
Before diving into the ins and outs of technical analysis (also called ‘TA’), let’s try to perform some empirical exercises to exemplify what technical analysis is. Starting with support and resistance zones, one of the foundations of technical analysis. First example:
What happens when the price approaches the yellow boxes? The price touches these areas and reverses about 8 times in this example. This is an example where the price bounces when approaching certain levels. The yellow box at the bottom we call a ‘support’, the yellow box at the top, a ‘resistance’.
These areas present us with multiple trading opportunities if spotted in a timely manner. One of the challenges typically is figuring out how long a resistance or support zone will hold.
We can call these dynamic support and resistance zones. Around these zones, the probability of profitable trading opportunities increases significantly.
Trade with rules, not your gut.
As a general rule: It’s extremely important to be unbiased and emotionless when analyzing markets. Technical analysis requires being impartial and applying strict rules. This is why we will aim to write the technical analysis in a scripting language, which is by definition strict and impartial.
On top of these macro overviews, there is one key concept to success where 90% of all new traders fail: Risk Management. There’s a famous statistic that says 90% of new traders lose 90% of the account within 90 days, the 90/90/90 rule. Strict risk management minimizes the impact of losing trades while maximizing the returns of winning ones.
Some people feel like trading is gambling. Trading is about analyzing how markets move while following rules to take calculated risks. Technical Analysis is not infallible, but it increases the odds of predicting future price action.
In this way, technical analysis is about reading the market and reacting to its feedback to make a conscious decision.
Most traders agree that the goal of trading is to make money consistently, day after day, week after week. This goal forces us to avoid short-term gains and focus on long-term gains. Phrased differently: The mindset of a trader should focus on longevity rather than short-term gains.
As part of our toolbelt as traders using technical analysis, we have technical indicators. A key factor for success is understanding that indicators are not magic nor is automated trading magic. The market never stays the same, certain indicators (or combinations of indicators) that work today, might lose efficacy as time goes by.
In layman’s terms, let’s say we are the coach of a football team, our playing style might’ve worked in the first 3-to 4 games, but eventually, we will come across a team that beats it. Our strategies didn’t work this time and we ended up losing the game. Good coaches constantly analyze their opponents and adapt their strategies accordingly. You’re the coach, technical analysis tools are your players and the market is your opponent.
Continue to chapter 2 where the price action will be linked with support and resistance concepts.