At times technical analysis can lead to a state of confusion with traders. The range of indicators and methods available is unbelievably wide, which makes it difficult for traders to choose and is one of the main reasons Winners Edge Trading advices to keep trading simple.
Ultimatelyit’s a trader’s trading plan and strategy that lead to long-term sustainable profitability. In fact, whether technical analysis leads to profit in trading is a debate that most likely will never end.
Technical analysis tools, however, often play a large role in many profitable strategies. Although mastering technical analysis must not lead to profits, those with a profitable strategy often do use technical analysis tools.
The goal of today’s post, therefore, is to discuss a step-by-step guide how to technical analysis can be used for discretionary trading. Whereas with non-discretionary trading traders have no or little choice in their trading decisions as they must adhere to the rules of the trading plan, discretionary trading is (almost) the opposite and it allows traders (lots of) freedom in their trading decisions. In the first case trading is known to be a science, in the second example trading is known to be an art.
For this exercise, “classical” technical analysis tools and concepts will be used such as trend, trend lines, moving average, etc.
STEP 1: CHOOSING PAIR(S)
Before a trader actually starts performing analysis on any chart, the choice needs to be made which currency pair(s) and time frame(s) are reviewed. Performing detailed technical analysis (TA) takes time, and because time is a limited resource, making a choice which pairs to review and analyze is needed.
- Traders can opt to analyze the same currency pairs each time and 1 or 2 time frames: this option is ideal for starting traders because multiple pairs lead to confusion.
- Traders can review all pairs and time frames without limits and then pre-select pairs (using TA): this option is best for traders with more experience.
The advantage of point B is that traders select pairs and time frames where the market is at a decision spot, which has a high potential in offering trade opportunities. Criteria such as whether a pair is trending, whether price is close to trend line, or whether there is a candle stick pattern, will help traders keep their focus on pairs with potential.
Now that traders know which pairs and time frames they want to analyze, let’s discuss the next step: the trend.
STEP 2: IDENTIFY TREND
It is an absolute must for traders to identify the market structure: is a currency pair in a range, trending or reversing? One of the basic tools a trader can use is the classical definition of a trend:
- Uptrend: higher highs and higher lows in an
- Downtrend: lower lows and lowers highs in a
- Range: lowers highs and higher lows in a
- Reversal: price is going in opposite direction of a) or b)
There are various tools that help clarify whether price is in a trend, range or reversal. Those are:
- Trend channels and trend lines help with connecting tops and bottoms to help identify the trend (read more info here).
- Moving averages also provide value by monitoring where price is in relationship to them (read more info here).
- Looking at the candle stick also provides information about the direction of price (read here for more information).
- The concept of an impulsive helps traders understand to which direction the flow of the market is heading to (read here for more information).
STEP 3: IDENTIFY PATTERNS
The market and price make repetitive patterns throughout history. The ability to identify these patterns help traders with understanding the market structure. The most important patterns are:
- Candle stick patterns: each candlestick provides traders with vital information how to read and interpret the current winner (bear or bull). Being able to understand the market communication via candles is very important for all traders.
- Chart patterns: the market psychology makes patterns on the chart that stretch further than candles. Price builds patterns which traders can use to identify key lines in the sand.
For instance, let us assume an example when a currency is in a down trend and the market is showing bearish engulfing twins or other candlestick patterns at the top of a contracting triangle. Within these market conditions a trader can conclude that the market is ready for a continuation of the downtrend.
STEP 4: IDENTIFY SUPPORT AND RESISTANCE
Support and resistance (S&R) is another key concept within the field of technical analysis. There are many ways of using S&R, but the most commonly used are tops and bottoms. It is important for traders to work with S&R because price respects these levels with a consolidation zone or reversal / retracement bounce. In general, these tools tend to be used frequently:
- Tops and bottoms
- Fibonacci retracement and targets
- Round numbers (like 1.40 or 1.00)
- Oscillator (divergence is resistance, convergence is support)
Conclusion: by using this step by step guide, traders have a starting point how they can apply technical analysis for making discretionary trading decisions.
Important: does this step by step guide help you? Are there elements missing?
Thank you and good trading!
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