TECHNICAL ANALYSIS BASIC THEORY
The theory behind technical analysis, is that the future movements of markets – whether equity, bond, commodities, interest rates or exchange rates, may be assessed and predicted with an acceptable degree of confidence from the study of price or rate movements and market activity. Technical analysis will be an integral part of your daily routine and needs to be understood if you are to make informed trading decisions in any market.
Technical analysis is based on three premises:
MARKET MOVEMENTS DISCOUNT EVERYTHING
“All the necessary information relating to investor behaviour is contained in the actual movement of market prices, and in the movement of certain mechanical indicators of investor activity” – Author of “Technical Analysis of the Futures Markets”
Given a free market, price movements (for price assume rate where applicable) reflect changes in supply and demand, and at any one time the price is the balance between the two. All knowledge and expectations – whether economic, political, or psychological – are reflected in the price.
PRICES MOVE IN TRENDS
If they did not, the market would consist of purely random movements. Inspection of almost any chart will show that this is clearly not the case.
Trends do not, of course, establish and maintain a straight line. There is always interplay between market participants, a conflict between those who think the trend has further to go and those of the opposing view.
This conflict produces the “wobbles” about the trend. It is often said that there are more rising days in a bear market that in a bull one. Naturally, the rises are considerably smaller and are outweighed by falls on negative days.
HUMAN BEHAVIOUR IS CONSTANT
The driving forces behind markets are greed and fear. Under the influence of these forces human nature becomes less rational, and greed will drive prices to unsustainable levels, while fear will depress them below any reasonable valuation.
What we can take from history, is that one learns nothing from history!