Cryptocurrency trading entails the use of forecasting strategies to help traders in making better trading decisions. Technical analysis is one of the widely used methods. What does it involve? How does it work? Does it have any limitations? XTRgate will elaborate on all of those. so read on to get answers to these and more questions regarding this trading analysis method.
Technical analysis is a method of analyzing the market activity of an asset to determine and predict its future behavior and profitability. This method tries to predict the future price position of an asset based on its past trading data. With this strategy, the price charts and other indicators are used to identify patterns that helps a trader in drawing a conclusion to base the investment decisions they make.
Chart lines, patterns, and indicators and oscillators are the three main components used in technical analysis. Chart lines are drawn to help in finding out where the prices tend to react. Then, patterns are used to identify significant chart patterns that forecast where prices will most likely head. Indicators and oscillators entail using statistical tools to detect buy and sell signals. Through these three components, traders can trace the price history of the cryptocurrency they are analyzing.
Overall, the technical analysis only concentrates on the price of a cryptocurrency being analyzed. The price is taken to have factored all the current market information. Through price actions and indicators, one can predict the price movements in the future; hence, make their decision accordingly.
Technical analysis is based on the following three underlying assumptions:
This supposition deduces that market prices may be influenced by how investors perceive supply and demand. Besides, this assumption takes the market price of an asset to have reflected all the economic elements as at the time was captured. Consequently, technical analysis disregards the factors and data behind the price position of an asset and focuses only on its market value, which, according to the strategy, is enough to foretell the future direction of the asset.
Technical analysis mostly revolves around this assumption, where it takes the future price movement of an asset to follow a particular direction once a pattern is established. The price of an asset will most likely not be random but rather follow an established market trend, which can either be upward, downtrend or flat trend.
An upward trend happens when there are higher highs and higher lows in the prices, which portrays a bullish market. A downtrend occurs when there are lower peaks in prices, which demonstrates a bearish market. Lastly, when investors haven’t made up their minds, a flat trend is experienced. In such a situation, neither the sellers nor the buyers are in control, which results in prices to move sideways within a range.
Traders are most likely to repeat the behavior of past traders due to common human factors and market psychology. The trading mindset in most traders is most likely to be triggered by similar elements such as greed, ego, anger, pride, and sadness, among others, which result to a steady response to identical market stimuli over time; thus, leading to trend or pattern. The technical analysis, therefore, aims at forecasting the future price movement based on the patterns that consumers portray.
Technical analysis is good to use by a trader looking into the short-term scope rather than the long-term. Through the market data and performance patterns that you get from a technical analysis such as market prices, historical returns, among others, one can be able to make a quick decision for short term basis.
Besides, through its multiple charts, technical analysis can allow one to spot opportunities to buy or sell cryptocurrencies before the trend is populated, hence giving you a chance to earn huge margins. Technical analysis can be used by anyone starting in crypto trading as long as they have a price chart and access to technical indicators.
Technical analysis has the following limitations which you need to be aware of to avoid incurring losses:
No Concrete Foundation on the Assumptions
Technical analysis is mostly based on the history of pricing, which can’t be 100 percent accurate since the assumptions or patterns may be false. Besides, the cryptocurrency industry is experiencing changes every day which means factors that may have influenced market prices yesterday may not be present today. Therefore, this method can be more of a trial and error, which is not what anybody looking to invest their money is looking for.
Disregards Underlying fundamentals
By ignoring the other factors that influence the market price, technical analysis gives room for the occurrence of volatility. This strategy restricts the market perception which means if there are sudden and foreseen occurrences in the market, there can be instability in the prices, and chances are traders will be caught unaware. This can result in a sudden swing as every trader tries to exit their positions.
Can trigger fulfillment of its prediction
With technical analysis, there is a probability of many people making a trade using a similar pattern. This will force a prediction to be fulfilled while at the same create a bottle-neck situation where everyone is trying to execute a similar order, hence locking out each other.
Requires Subjective Thinking
Traders may have a diverse understanding and interpretation of the signals they receive, even if they are similar. This will result in obtaining different results when they execute their trades. The judgment of a trader is what separates losers from winners.
Technical analysis entails analyzing the market performance of an asset through its price action via charts and patterns. Price movements reflect the economic overview of an asset; hence, all other underlying factors that affect pricing in the market are disregarded. All that matters is what is the price and not why. The past trading activity, movements, and changes are the main pointers of the health situation of an asset and its price direction.
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