Forex Trading - What is Technical Analysis?

By: Amar Mahallati

Simply put, technical analysis means that one studies price movement. You can use price charts in order to keep track of price movement history. By doing so, you can try to figure out which way prices will go, up or down, in future trends.

Most online forex brokers give you many different tools that will help you figure out what it is that will assist you in technical analysis. Some of these include the following:

Bollinger Bands

Bollinger Bands measure market volatility. They use three lines of data: an average that changes in the middle; an upper line, which keeps track of the changing average and then adds two standard deviations; and a lower line, which keeps track of the changing average, and subtracts two standard deviations.

If the market is particularly volatile, the bands appear further apart. If volatility is not so great, the bands appear closer together.

One phenomenon known as the "Bollinger Bounce" means that the middle band is "controlled" by the two outer bands. When the middle band nears either of the two outer bands, it is "bounced" back towards the middle. This helps you visually keep track of the market, and it's useful because if the middle band does approach either the upper or lower band, you know it's likely that it will be pushed back towards the middle. It's best to use this as a strategy if prices are changing rapidly but you see no clear trends from your data.

Another way to spot a general trend is what is called the "Bollinger Squeeze." When the bands squeeze close together, it might mean that a breakout is going to happen pretty soon. If the middle band "breaks through" or exceeds either the upper or lower band, it's likely that the market will continue to trend in that direction.

Another indicator is called the "Parabolic SAR," or "Parabolic Stop and Reversal." This indicator spots trend reversals. It is perhaps the easiest indicator to read. Points or dots are placed in the chart in positions that are either above or below the "candles." (There is thea formula used that regulates where the points appear on the chart, but it's too in depth to describe here.) If points appear above the candles, traders should sell. If points appear below the candles, traders should buy.

Parabolic SAR works best if there are clear downward or upward trends. However, it does not work very well when price movement is minimal.

Another indicator is called "stochastics." Stochastics measures conditions that have been overbought or oversold in the market. The scale ranges from 0 to 100. If stochastics' lines are above 80, this means that the market has been overbought and a downward trend may soon be coming. If stochastics lines go below 20, it may mean that the market has been oversold and an upward trend is about to occur.

Stochastics can help you if you want to determine when you should lock in profits or when you should place an order to buy or sell. However, don't just rely on one of these indicators. Use several of them and adjust your trading strategy according to what you see.

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