What is Technical Analysis for Trading?
Broadly speaking there are two types of analysis: fundamental and technical. For now, we’re just going to focus on technical analysis.
Technical analysis focuses on using price charts to identify trading opportunities, or help identify them. This could be on any asset, as long as it has a price history such as stocks, commodities, currencies, and bonds.
How to Analyse a Market
There are many different approaches to analysing markets, but it typically includes interpreting the price movements and assessing future outcomes. This can include using the tools we manually draw on the charts which could include things like swing highs and lows, trend lines and Fibonacci, alongside indicators, market structure, the list goes on.
The type of price charts used depends on what the objective of the trader is, with the Duomo Method we use candlestick charts and sometimes line charts but there are plenty of other options available. In fact, there are infinite approaches to technical analysis, but that doesn’t mean they all work! And the majority won’t.
Within the Duomo Method, technical analysis is used to analyse the market and find significant levels, which we can then use to find reversals that have a positive expectancy. A bit simplified but that’s the overall goal.
Technical analysis is often pitched against fundamentals. However, they both have their advantages and disadvantages. And by understanding these, you can even incorporate them together.
Benefits of Technical Analysis
The overall market sentiment will be driven by fundamentals over the long-term. However, this is where technicals can offer some advantages:
Firstly, it’s very difficult to time the market with fundamentals. We may have a theory about something happening but knowing when that will get priced in can be like finding a needle in a haystack.
That's not the case with technicals though, because technicals can give you a precision entry. In fact, it’s possible to pick a reversal in the price to the exact pip. In a practical sense, this means that we don’t even need a long-term time horizon, we can completely ignore fundamentals if we want and just trade on technicals.
That means if you want to trade short-term, technical analysis is going to be a better approach for you.
A second benefit of technical analysis is that it increases profitability by reducing risk and increasing returns. How? Well, since you have precision, you can have a tight stop loss.
Unlike with fundamental analysis, where you don’t have the same precision so you need to have a much wider stop loss to account for bigger fluctuations in the price.
