Technical Analysis Basics
A method of predicting any future stock price movement based on the study of historical market data.
Such data may include prices trends, trading volume, open interest, the relation of advancing issues to declining issues, and short selling volume.
A major criticism of technical analysis is that it only considers price movement while ignoring the fundamental factors of the company.
However, technical analysis assumes that a stock’s price reflects everything that has affected or could affect the company, including fundamental factors, so these do not need to be considered separately.
Price moves in trends
In technical analysis, price movements is believed to follow market trends rather than in a specific point in time.
This means that after a trend has been established, the future price movement is statistically more likely to move in the same direction as the trend than to be against it.
History repeats itself
Another important aspect in technical analysis is that history tends to repeat itself, primarily in terms of price movement.
The repetitive nature of price movements is attributed to the fact that market participants tend to provide a consistent reaction to similar market stimuli over time.
This is based on the concept that if the value of an asset moves in one direction, it is unlikely to remain there and may start to move back towards its original position.
As a result, an investor may sometimes choose to buy a Call option if the price has just fallen, or a Put option if the price has just risen.
This involves buying both a Call and Put option on the same asset at its low and high points, in effect straddling the two extremes.
It is best used in volatile markets.
An expiry level in between the two strike prices is ideal, and means that the investor is twice as successful, but if this does not happen, then losses are minimal because at least one option expires in the money.