Defining the Basics: Market Analysis
Having a clear understanding of the market and being able to analyse it is just one more part of being a good trader. It’s essential that you are able to read the market in order to identify when to buy or sell. There are three types of market analysis, each with equal importance. So, over the next couple of posts, I’m going to take a look at these.
The three main ways of analysing the market are:
1. Technical analysis
2. Fundamental analysis
3. Sentiment analysis
Whilst there is an on-going debate over which of these is the ultimate, most important form of analysis, the truth is that you need all three, a bit like the legs of a tripod – nobody wants a wonky picture! It’s the same idea with market analysis, if you ignore one type, then your view of the market is hindered, which you definitely don’t want when you start trading with your own money.
So, this week I’ll start with the first – technical analysis.
Technical analysis is the structure by which forex traders study price movement. The theory behind this is largely based on the old saying ‘history tends to repeat itself’. Basically, we can make use of historical price movements to determine current trading conditions and even potential future movements.
By using technical analysis, the argument is that since all current market information is reflected in price, then this is all we need to know to make a trade. Traders will use previous examples and look out for similarities in order to place their trades.
The word ‘technical’ is sometimes a little off-putting to those just starting out on their trading journey. I know the first things that came to my mind were images of charts and endless amounts of terrifying data. However, it’s not as scary as it first seems. Technical analysts use charts because they’re actually pretty useful ways of concisely visualising historical data. Using them means that you can quickly identify trends and patterns in trading history to help you find some great opportunities.
Theoretically, this makes total sense – why would you use anything but technical analysis? The first answer is fairly obvious - why limit yourself with one weapon when you can use more? Secondly, technical analysis isn’t always as reliable as you might think; it’s actually pretty subjective. For example, just because two people are looking at the same chart, it doesn’t mean they’ll interpret it in exactly the same way. This is why it’s best to use a number of analytical techniques so you don’t find yourself stuck in an unwanted position.