Fundamental analysis considers indirect factors, based on which it assumes how much the asset “should” cost. Technical analysis takes into account only the actual price movements.
Technical analysis is regarded as one of the most proven methods. If used correctly, it explains market sentiment, clarifies key trends, and helps make weighted prediction.
Technical analysts are the “chartists”, who analyze the price movement of an asset reviewing the price chart using a set of tools and draw conclusions and forecasts based on this analysis.
Basics of Technical Analysis: 4 Dow's axioms
Technical analysis as a method of assessing the security's volatility is based on the Dow theory.
Four axioms of the Dow theory:
1. The market takes into account everything. The digital asset value depends on the past and present events, and even future predictions, past, current and future demand, as well as any change in cryptocurrency price adjustment.
The price contains all relevant information, including current awareness and expectations of all market participants. Therefore, technical analysts are trying to understand how the current price of an asset reflects market sentiment in order to make a reasonable forecast of future price dynamics.
2. Price movements are not chaotic, but follow trends. Once an asset creates a certain trend, most likely, it will follow this trend, rather than go against it. Using technical analysis indicators, traders are trying to identify trends and make some money on them. Trends can be divided into short-term and long-term.
3. “What” is more important than “why”. In technical analysis, the historical price movements of an asset are more important, than the parameters influenced its movement. Different factors can affect the price of an asset, but technical analysts look directly at the chart - the effect of supply and demand.
4. History repeats itself. Traders often react in the same way to the same circumstances, so the market psychology is quite predictable. For example, digital currency markets often react as bullishness to news of wider acceptance of cryptocurrencies.
Identifying Market Trends
Identifying market trends – i.e., determining the direction which the price of an asset is moving – may bring many benefits to crypto traders. However, correct identifying these trends is not an easy task.
Cryptocurrencies are well known for their high volatility, so the price chart of a token may look like a series of ups and downs. However, technical analysts are able to properly ignore volatility jumps and determine a trend:
- upward (bullish) trend, when the chart shows a sequence of higher highs and lows,
- downward (bearish) trend, with a series of lower lows and highs,
- horizontal, also called as sideways trend or flat, when the price of an asset does not experience sharp jumps and falls.
Each of these trends can last for a different time and be short-term, intermediate-term or long-term.
Identifying Market Trends: moving averages
The “moving average” indicator shows the coin’s rate more smooth, gaining a better understanding of where the price is moving.
A simple moving average is the basic type of moving averages. In fact, this is just the average price of an asset over a certain period of time.
When calculated, an exponential moving average is based on the most recent price indicator of an asset.
Analysis of moving averages helps to more accurately predict the moment of trend change in the market. For example, if the five-day moving average falls below the twenty-day one, then a change from bullish to bearish trend is possible. Conversely, if the short-term moving average rises above the long-term one, this may indicate a growing bearish trend.
The five-day simple moving average (SMA 5) repeatedly crosses the twenty-day moving average one (SMA 20) upwards.
Support and Resistance
Analysis of support and resistance levels helps to better understand the supply and demand situation, or, in other words, market sentiment.
Indeed, the support level is the asset’s selling price, which a large number of traders consider knocked down relative to its actual value at the moment. In other words, this is an “oversold” condition of an asset. At such a “low” price for an asset, a many traders are ready to buy it.
When the price approaches this level, market players become active and begin to buy a coin up, thereby creating a “floor”. For example, if for several days Bitcoin is traded at a price higher than $ 1,000, then any rollback to the $ 1,000 level (don’t even think) would make market players believe that the currency is undervalued, which will lead to buying it up.
Support level (green)
Resistance is a support antagonist. The resistance level is the “overbought” price level when a large number of traders want to sell an asset as they consider it overvalued due to the fact that too many traders buy it at an inflated price
For example, if in consecutive sessions Bitcoin is traded at a price below $ 1,000, then the price approaching this level will force traders to open sell orders, and this will create resistance to further price development.
Resistance level (green)
Sometimes, in the market, the token value fluctuations between the support and resistance levels are observed, which creates a price channel. Some traders engage in trade in it: they buy a coin when its price goes down to the lower channel boundary and sell when the value rises to the upper boundary.
Support and resistance ranges.
But it happens that the coin price breaks a trading range. A strong and confident breakout causes an increase in trading activity, significant volatility and the creation of a new price trend.
For example, the coin price breaks the resistance level – it turns into support for the higher range.
However, the converse is also true: if the token price falls below the support level, it becomes resistance for the new lower range.
Trading volume and identifying trends
Trading volume plays an important role in identifying market trends.
High volume indicates strong price trends, but low volume indicates weak ones.
Especially, it is better to analyze the trading volume when a coin changes greatly in price, and no matter whether it increases or decreases.
For example, the Bitcoin price is rather long in an uptrend, but then drops sharply. Analyze the trading volume in the market to determine whether this fall is the beginning of a new trend or is a temporary rollback.
As a rule, the price development correlates with an increase in trading volume. If the coin price is in an uptrend, but trading volumes are low, this might signal a trend exhaustion and its near termination.
Increase in trading volume with increase in price.
Indicators in Technical Analysis
Traders analyze the price chart using special indicators.
Seriously, this is really a whole world, inherited to crypto trading from securities and fiat trading. Crypto trading received it together with classic indicators, which have been polished over decades of continuous practice.
There are many services on the Internet that help traders to get and analyze this tsunami of data.
Here, the leaders are the classics and among them – TradingView – one of the largest technical analysis platforms and a social network for traders.
TradingView includes over a hundred market analysis indicators that cover the most popular trading concepts.
Advanced users can create original indicators and signals in the Pine Script language – every trader can create almost any indicator from scratch.
TradingView provides beginners with enough tools: indicator templates, simple integration and the ability to test.
Needless to say that automation works with accurate data and instantaneous signals multiple times more efficiently than the human brain. Fortunately, now you can combine two machines: a bot for trading on cryptocurrency exchanges with TradingView indicators; create your own strategies or copy other ones, trade around the clock on signals and make a profit.
Criticism of Technical Analysis
Technical analysis may be a valuable tool for a crypto trader for many years, but it is important to understand the arguments of the opponents. Most critics rely on the “efficient market hypothesis”. Allegedly, all information is always reflected in the market price of an asset; therefore, there is no point in analyzing the behavior of assets for determining when they are undervalued and when - overvalued.
It is important to understand that this hypothesis has its own adepts and opponents. Decide for yourself what the arguments and tools are more correct to you.
- Competent technical analysis helps to determine the cryptocurrency market sentiment, identify trends, and potentially make a more balanced investment decision.
- Technical analysis begins with understanding the direction which the coin rate is moving. Here, the method of moving averages and support and resistance levels would help.
- The second pillar of technical analysis is an understanding of the direct relationship between the trend power and the trading volume. A decrease in trading volume may indicate an early trend termination, and a high trading volume is more common shows a strong trend.
- Technical analysis is a practical approach that focuses only on the price of an asset and the trading volume. Therefore, relying only on technical analysis, a trader may miss an opportunity to buy a coin when it is undervalued, or risk buying it at an inflated price - at least in the opinion of adherents of fundamental analysis.
- In the real world, traders often combine technical and fundamental analyses. For example, when he found that indicators and patterns of technical analysis signal the purchase of Bitcoin, a trader can check out fundamental data, such as news about the decision of the US Securities and Exchange Commission (SEC) on the Winklevoss Bitcoin Trust ETF fund.
- The second combination method is to use fundamental analysis to decide on whether the coin is undervalued or overvalued, and use technical analysis to determine the best moment to buy or sell a token.
- At the moment, human is better in the choice of strategy in technical analysis, but a soulless machine is better in its execution :). For these reasons, TradingView universe and 3Commas features are available to you.
Finally, we would like to wish you to dodge the stereotype that only advanced traders know how to use indicators.
In fact, it is better to know them as early as possible and select the indicator: not the one that was understood by you more easily than the others, but the most suitable for coin, moment and you.
May the profit be with you :)