What is Technical Analysis?

What is Technical Analysis?

In investing, fundamental analysis is the analysis of the fundamentals of a company, i.e. whether its business is thriving or going down the pan. Technical analysis doesn’t concern itself with company fundamentals, it attempts to predict the future price of a stock based on previous prices and charts. Stock charts are a reflection of price movements over time and the volumes of stocks traded.

According to technical analysis any news about a company can be seen in the charts first and if you are adept at reading the signs then you will see which way a stock price is headed before any news is announced by the company.
Technical analysis is based on the following assumptions – prices are determined by supply and demand, supply and demand is a result of both rational and irrational behaviors, prices move in trends and these trends are generally long-lasting, changes in supply and demand can be spotted by analyzing the way the stock price behaves.

Why bother with technical analysis?

It is easier than fundamental analysis and faster.

It does not make us of company accounts and therefore cannot be manipulated by companies, it tells you what to buy and sell and when. Technical analysis based on the behavior of crowds, if people expect a certain thing to happen upon a certain signal, then they will react in a particular way when they see that signal. If enough people react in the same way then the expected outcome is achieved and the analysis becomes self-fulfilling i.e. a stock price goes up because enough people buy the stock because they expected it to go up. Many hundreds of expert analysts use technical analysis and thus influence stock prices by reacting to the same signals.

There are many indicators that are used in technical analysis, but one of the principal indicators is the 200 day moving average. If a stock falls below its 200 day moving average this is considered a bad signal and people tend to sell the stock. If a stock goes above its 200 day moving average this is generally considered a good sign and people tend to buy.

If 80% of stocks in the stock market are above their 200-day moving averages, this is considered to be overbought and so people tend to sell the market. If less than 20% of stocks are above their 200-day moving averages, this is considered to be oversold and a signal to buy.

There are many other indicators used in technical analysis such as the relative strength index, Bollinger bands etc… and any online stock trading site will allow you to include them automatically on any charts you may wish to look at, you don’t need to work them out yourself. A study of all the different indicators is probably not necessary but if you are serious about investing or trading the stock market you will certainly need to learn about the main indicators.

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