Introduction to Technical Analysis

Introduction to Technical Analysis

Fundamental analysis which seeks to determine the value of a financial instrument by analyzing all the things such as the balance sheet of a company when trading stocks, or interest rate expectations when trading currencies to try and estimate whether a particular financial instrument is over or under valued.

There are two basic methods that traders use in determining when to enter the market when trading the stock, forex, and futures markets, which are:

Fundamental analysis which seeks to determine the value of a financial instrument by analyzing all the things such as the balance sheet of a company when trading stocks, or interest rate expectations when trading currencies to try and estimate whether a particular financial instrument is over or under valued.

Technical analysis on the other hand focuses purely on historical price action of a particular instrument to determine whether the instrument is more likely to increase or decrease in value in the future, and therefore how it should be traded.

Although there are exceptions to this, as a general rule, longer term investors tend to base their trading decisions on fundamentals and shorter term traders tend to focus more on technicals.

From my experience, although active traders tend to focus more on technicals than fundamentals, they still have an understanding of fundamentals and many consider fundamental factors in their trading decisions along with their technically based analysis. There is much debate as to which method is better as there are successful investors and traders who focus only on fundamentals (a great example being warren buffet) just as there are those who are successful and focus only on technicals (a great example being Richard Dennis).

As the Informedtrades.com reader base tends to focus more on technicals than fundamentals this is where the focus of the initial lessons will be as well. Once we have built a solid understanding of technical analysis and the tools used by a technically based trader, we will begin exploring the fundamental factors which move the markets. At that point you can decide for yourself whether you would like to base you trading on technical analysis, fundamental analysis, or a combination of the two.

So there you have a brief overview of the two ways that traders analyze the market. In the next lesson on Dow Theory we will take a look at the history of technical analysis and the way a technical trader looks at price patterns to get a big picture overview of where the market has been, and where it might be headed next. As always please feel free to use the comments section below to leave any comments or questions you have for me, and have a great day.