Technical analysis determines the direction of prices by evaluating securities and analyzing the statistics, such as charts and historic data. Technical analysts never measure intrinsic value of the security, rather they use graphical representation and other basic indicators for identifying patterns that provide information about possible future price moves.
Like several investment styles seen on fundamental side, even technical analysis can be performed using an array of indicators and oscillators, or both. Common indicators involved in this practice include resistance and support price levels, trends, moving average, double tops and double bottoms, MACD and Bollinger Bands.
Technical analysis is regarded to be one of the most effective methods of analyzing the market due to following three assumptions:
1. The movement of price is in terms of trends
Most of the trading strategies that utilize technical analysis are based on the assumption that price follows a trend. This means, if a particular movement has occurred on the graph then it will likely happen once more in the same direction for future price movement rather than moving against it. The phenomenon of repetition is associated with the psychology of the participants, which indeed is a major influencer of the market. It basically states that the reaction of the traders will be similar to those trends that might reoccur in the market.
2. Historical data does occur again
From the first assumption, the second aspect is that chances of historic trends being repeated is high, particularly due to the movement of prices. Once again, it is the repetitive nature of price that becomes a driving force for creating similar circumstances that had occurred before. The analysts utilize chart patterns for understanding the upcoming movements, however these have been in use for over 100 years and are still of utmost importance due to the fact that it illustrates patterns that repeat again and again.
3. Price is based on the law of demand and supply
Analysts believe that the price depicted provides information about each and every aspect including economy and market psychology. With this, the need of considering these factors is eliminated, and it only leaves the trader with movement of prices. Technically, the aftermath is the supply and demand of the currency pair that you are dealing with. The advance technical tools are based on these three basic assumptions and remain to be simple and accurate indicators of the forex market, for determining the future price movements (long term and short term).
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