What is Technical Analysis?

Technical Analysis is defined as the study of the market itself through the analysis of price action with the use of charts forecasting future price movement. Technical analysis can be viewed as a combination of applied social psychology and statistics, like poll taking.

The objective of technical analysis is to detect trends and changes in crowd behavior and to express that information in a quantifiable manner in order to make intelligent trading decisions.

Tenets/Premises of Technical Analysis:

Technical analysis is based on three premises of the Dow Theory:

Technical Analysis Category:

Modern day technical analysis can be categorized into either classical chart analysis or computerized technical analysis.

Classical Chart Analysis

Computerized Technical Analysis

Charts are the main tools of the technical analysis and currently, there are five chart types available to the modern day trader. These five chart types are the OHLC or bar chart, the Japanese candlesticks, the line chart, the mountain chart and the point and figure chart.

Charts are used to show the opening price, the highest price, the lowest price and the closing price. The opening price is the starting point of your chosen time frame. The High is the point which shows the maximum power of bullish traders while the Low shows the maximum power of bearish traders. The closing price is the standing price at the end of your chosen time frame. Each of these components tells a story of the bears and the bulls. For example, if the close is higher than the open and the close is near the high, then it goes to show that the bulls trampled the bears during that time frame.

PSS Client Terminal only supports the line chart, OHLC or bar chart and the Japanese candlesticks as these are the most commonly used chart types.

• Line Charts

• OHLC (Open High Low Close)

• Japanese CandleSticks

- the simplest and most basic chart type. - plots only one of the types of prices - be it the open, low,   high or close. Most traders use the close because it is   considered to be the most important. - the main flaw of the line chart is that it does not tell the story   of the bears and the bulls because it only focuses on the high,   the low or the close. - has a limited use although some traders prefer using the   line chart when using certain indicators such as the moving   average.

- commonly referred to as the bar chart. - the most commonly used chart type. - the positioning of the opening and closing price tells the   story of what happened between the bears and the bulls   within the bars.

- allegedly used by Japanese rice traders since the late   1800's. - its popularity is due to the fact that the Japanese   candlestick visually represents if the bears or bulls won   during the previous candlestick. It also provides   information about the opening price, the highest, the lowest   and the closing price and the closing price. - bullish candlesticks are usually displayed as white, while   bearish candlesticks have black bodies. - it also consists of four major prices: high, low, open, and   close. If the close is above the open, then a hollow   candlestick is drawn. Whereas, if the close is below the   open, then a filled candlestick is drawn.

Trend Lines and Trend Channels

Classical chartists use trend lines to try to determine areas of support and resistance.

The classical way to draw an uptrend trend line is by connecting two previous troughs with a line. If the line is pointing up, then there is an uptrend. In order to validate the trend line, price must touch the trend line and bounce up again. A more advanced technique is the use of trade channels. To create an uptrend channel, connect first the two most recent troughs and then draw a line parallel to it, but this time connecting the most recent peaks.

The classical way to draw a downtrend trend line is by connecting two previous peaks with a line. If the line is pointing down, then there is a downtrend. In order to validate the trend line, price must touch the trend line and bounce down again. A more advanced technique is the use of trade channels. To create a downtrend channel, connect first the two most recent peaks and then draw a line parallel to it, but this time connecting the most recent troughs.

Things to remember about trend lines and channels:

•	A trend line which has been tested five or more times are reliable and a break of this trend line is a significant event which probably signals a reversal.
•	Trend channels, which have high volatility, are more reliable and are harder to break.
•	It takes enough volume to break resistance areas but it does not take enough volume to break support areas.
•	Trend lines and trend channels should ideally have a 45-degree angle, otherwise, they are considered too weak or too unsustainable.

Price Patterns also known as Area Patterns are pictures, shapes or formations which appear on price charts and can be easily recognized by those who are familiar with them.

Price Patterns can be categorized into either Continuation Patterns or Reversal Patterns.

Continuation Patterns, as the name suggests, are Area Patterns which indicate a short pause if the trend is about to stop and that trend is ready to continue its direction.

Reversal Patterns, on the other hand, are Area Patterns which signify that the current trend is about to end and that change in direction is about to take place.

Technical indicators are mathematical interpretations of certain aspects of market behavior.

Technical indicators are more objective than area patterns and trend lines, which can be used to determine the balance between the bullish traders and the bearish traders. Each technical indicator can be used by itself, but a combination of two or three is ideal.

Advanced traders might also opt to combine technical indicators with trend line and area pattern formations.

Basic technical indicators fall into three categories which are: Trend Follower, Oscillator and Volume. Considering that there are preset parameters for each technical indicator, it is best to tweak its settings to maximize its performance. A trader will have to adjust the percentage depending on the currency pair and the time frame he is looking at. In determining what technical indicator best suits you, it is best to get a thorough knowledge on each of these indicators to avoid any form of misinterpretation.

Educate Yourself

Forex trading can be extremely complicated. Arm yourself with the right information before you begin using real money.

You can even use practice accounts available from most, if not all, brokerage companies. Continue to learn as you go.

Start Putting Your Intuition Into Use

Once you have a feel for Forex trading and you have made some gains, and no doubt, experienced some losses, you will develop an understanding of how it all works; not just in terms of numbers, but in terms of the way the world currencies fluctuate.

Keep an eye on the news of the world and pay attention to events that might cause an upturn or a downfall in a particular country's economy.

Cautiously apply your intuition based on the information you have and you will gain a better insight into how to make profits next time.

Trade Popular Currency Pairs

By trading on a popular currency pair, you will find yourself in a comfort zone, a safe place in which to learn and grow.

The five (5) most popular pairs are EURUSD, USDJPY, GBPUSD, USDCHF and EURJPY.

Plan For Long-Term Involvement

If you see your Forex trading system as something that will bring huge profits in a short space of time, you are unlikely to succeed.

Currency markets change even on an hourly basis. The highs and lows can be massive or they can level out depending on the major events happening in the world.

See your Forex trading as something you will work on long-term so that you can get a taste for how it works in a variety of situations and volatilities.

Forex trading requires a reasonable attention span, some focus on detail, an understanding of currency markets and a good deal of patience.

The other ingredient you need is a plan. You would not head out for a trek in the woods without a compass; likewise do not begin Forex trading without a trading plan.

Time Frame

Another thing you need to decide when creating your system is what kind of trader you are. Are you a Day Trader or a Swing Trader?

Do you like looking at charts every day, every week, every month or even every year?

How long do you want to hold on to your positions?

This will help determine which time frame you will use for your trades. Even though you will still look at multiple time frames, this will be the main time frame you will use when looking for a trade signal.

Find Indicators That Help Identify A New Trend

Since one of our goals is to identify trends as early as possible, we should use indicators that can accomplish this.

Moving averages are one of the most popular indicators that traders used to help them identify a trend. Specifically, they will use 2 moving averages (one slow and one fast) and wait until the fast one crosses over or under the slow one. This is the basis for what is known as a "moving average crossover" system.

In its simplest form, moving average crossovers are the fastest ways to identify new trends. It is also the easiest way to spot a new trend.

Of course, there are many other ways in which trader's spot trends, but moving averages are one of the easiest to use.

Find Indicators That Help Confirm A Trend

Another goal for our system is to have the ability to avoid whipsaws, which means that we do not want to be caught in the "false" trend. The way we do this is by making sure that when we see a signal for a new trend, we can confirm it by using other indicators.

There are many good indicators for confirming trends, one of those are MACD, Stochastic and RSI. As you become more familiar with these various indicators, you will find one that you prefer over the others and you can incorporate those into your system.

Define Your Risk

When developing your system, it is very important that you define how much you are willing to lose on each trade. Not many people like to talk about losing, but in reality, a good trader thinks about what he could potentially lose before thinking about how much he can win.

The amount you are willing to lose will be different than everyone else. You have to decide how much room is enough to give your trade some breathing space, but at the same time, not risk too much on too much trade.

You will learn more about money management in a latter lesson. Money management plays a big a role on how much you should risk in a single trade.

Never risk more than what you can afford to lose.

Define Entries and Exits

Once you define how much you are willing to lose on a trade, your next step is to find out when you will enter and exit a trade in order to get the most profit.

Some people like to enter as soon as all of their indicators match up and give a good signal even if the candle has not closed. Others like to wait until the close of the candle.

It is really just a matter of trading style. Some people are more aggressive than others and you will eventually find out what kind of trader you are.

For exits, you have a few different options. One way is to trail your stop, meaning, that if the price moves in favor by 'X' amount, you move your stop by 'X' amount.

Another way to exit is to have a set target and exit when the price hits that target. How you calculate your target is up to you. Some people choose support and resistance levels as their targets. Others just choose to go for the same amount of pips on every trade. However you decide to calculate your target, just make sure you stick with it. Never exit early no matter what happens. Stick to your system! After all, you developed it.

One more way you can exit is to have a set of criteria that when met, would signal you to exit. For example, you could make it a rule that if your indicators happen to reverse to a certain level, you would then exit out of the trade.

Write Down Your System Rules and Follow It

This is the most important step of creating your trading system.

You MUST write your trading system rules down and ALWAYS follow it.

Discipline is one of the most important characteristics a trader must have, so you must always remember to stick to your system.

No system will ever work for you if you don't stick to the rules.