A Basic Guide to Technical Analysis-revised

Technical Analysis is basically a way of evaluating trading opportunities based on price trends and or patterns as they are represented on charts.

Charts can show various time frames depending on the options of the trading platform but can range typically from one minute, five minutes, 30 minutes, one day or one week. Going from a larger time period to a smaller period is basically just magnifying the larger time period under greater scrutiny; but, it doesn’t alter the actual movements.

Charts are read from left to right with the left being the past and the right side of the chart being the most current time period. The bottom of the chart reflects lower prices with higher values approaching the top of the chart.

On the above chart, Bitcoin is being traded against the US dollar and each candle represents a one day movement.

One of the most quoted adages in the market is to buy low and sell high and the charts and the indicators we can add to them often visually show us opportunities how we might best profit from that adage.

On most charts green candlesticks indicate a movement up in the market and red candles indicate a movement down. The opening price of the time period displayed on a green candle is the bottom of a candle and the closing price is the top of the candle.

On red candles, the opening price is the top of the candle closing at the lower bottom of the candles.

If a trader opened a buy trade then their trade would be set to take profit by one or more green candles following the time they opened the trade. Conversely, a trader who opened a sell trade would be setting themselves to profit from one or more red candles after the time they opened their trade. 

The amount of their trade size times the amount of movement is the potential for profit or risk for the trader.

Lines coming out of the top or bottom of the candle are called wicks or shadows and indicate that the price for that period went higher or lower than the opening or closing prices. The longer these wicks are the more volatility expressed for that asset during that time period. 

A series of candles mostly green would indicate an upward trend and a series of mostly red candles would indicate a downward trend. Quite often we see red candles in an upward trend or green candles in a downward trend as traders take profits in their trades or traders in the opposite direction look to gain some traction.

One of the most commonly used technical indicators is the Bollinger Bands.

Bollinger was a trader who wanted to use statistics to predict how an asset might trade by using its average price over a set period of time (commonly called the moving average).

The bands show an expected range of probable movement that a trader can use to visualize where they can set take profit or stop loss levels as well as entry points for new trades and possible levels for reversals of trends.

We can see on the Bollinger Band on this chart of Bitcoin three major horizontal lines (though not straight). The middle red line is an expression of the moving average.  It can be set at various time levels but the longer the time period the more reliable typically the moving average is as an indicator of how strong a trend is compared to a shorter time period.

The two horizontal green lines are the top and bottom of the range of how the asset might be predicted to move based on how it has been moving during the time period chosen. If the candles during a time period are staying above or below the middle red moving average that would indicate a strong trend (above the moving average an upward trend and below the moving average a downward trend). 

The chart above shows an upward trend that stalls for a short period before picking up again for an upward trend on the far right of the chart.

On the below chart, we can see the Bollinger Bands showing the range of movement on the USD/CAD (the US dollar trading against the Canadian dollar).

At the far left, we can see a large green candle hitting the top of the Bollinger Bands before a reversal and a long downward trend with more red candles than green and also larger candles.

Also, you can see on this downward trend that once the candles close below the middle red line that on a strong trend it will use the red moving average as a resistance level for candles moving up. As long as the top of any candles are closing below the middle red line, we are witnessing a downward trend. We can see coming into early December that the top of the red candles are getting further and further away from the middle showing a stronger and stronger downward trend.

Here is another chart to examine candles and how the Bollinger Bands works.

Many traders will look at candle movements hitting the top or bottom of the Bollinger Bands as an opportunity sell from a high price or buy from a low price. Some traders try to predict a reversal in the market before it happens to get the best price while some more conservative traders might wait for a confirmation of a reversal before buying low or selling high.

On the gold chart above we can see around October 14th the middle trend line is fairly flat with small green and red candles on either side of the moving average before a large red candle closes right on the bottom. Some buyers may have opened up a buy trade at that point expecting a reversal but would have had to wait for 4 more days (and further downward movement) before the reversal took place. A more conservative trader might have waited for the second or third green candle as a confirmation moving from about 1875 to 1934 before reversing again. 

We can also witness a few other traits about the Bollinger Bands. Most of the time (depending upon your settings maybe 95% of the time) candles like to close within the lines of the bands and when they go beyond the bands it can attract more action by traders to sell high or buy low.

Additionally, we can see that there are two lanes: an upper band and lower band and that an asset can sometime move within one band from the top or bottom to the middle or travelling within both bands from the top of the top band to the bottom of the lower band. It’s important to note that assets can move beyond the bands making dramatic profits or exposing a trade to extreme risk so traders can use settings such as the take profit or stop loss to target profits or limit the exposure of the market against a trade.

The Bollinger Bands are just one way to look at the market and a trader can look forward to becoming more adept at using them with practice. Focusing on how one or a few assets typically move has been cited as a way for a trader to develop an edge or advantage rather than trying to look at several or many assets and trying to understand their patterns.

For further insights into Technical Analysis, schedule time with a Trading Specialist.