Technical analysis is a tool that covers the study of the chart patterns, identifying the market trends, making a decision of entry and exit points and finalizing the psychological aspects of the market. There are many things that should be in your mind while analyzing the chart patterns with some characteristic.
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In technical analysis, the first step taken is determining price action type of the market. The example of action types a market can experience can be breaking out, ranging, trending, consolidating etc. The later stages are dependent on this first step; therefore a trader should always pay more attention to this. The price chart and its influencing factors should be studied carefully before actually applying the next steps of technical analysis. Following are few tools that are used for this purpose:
1. Oscillators are tools which are used for analyzing the markets with static trends. The purpose of this tool is to add a limit to the price action in terms of maximum and minimum value to produce sell or buy signals. However, this tool only works when price action actually stays between the artificially defined limit.
2. Another tool is the moving averages. They are useful for markets where trends are rapidly changing and where the oscillator tool fails because of high variations in price action.
3. The third tool is the support and resistance lines which are used for markets with varying trends. They can be used to make good estimate of the upper and lower limits of range and deciding the entry/exit points for traders who want to join or exit. A trader who wants to minimize risk should avoid trading near the boundaries of the ranging markets when he is not sure about his assumptions and analysis.
4. Simple trend lines are another tool which can be formed by moving averages or manually drawn. It is very useful in making assumptions about the price action. For example, user can use naturally created trend line which is created by analyzing average for certain time period. It is very important to keep in mind that you should adopt just one such tool and stick to it. Changing them continuously may cause problems as it will distract you. Simple trend lines can be an excellent tool if the trader knows well about how to interpret signals and when to ignore the other technical analysis tools.
5. Last but not least, there is a rule of thumb that technical analysis should be done as simply as possible. Using indicators is sometimes tricky as many times different signals are generated by various tools which make it confusing to decide which one is correct. Moreover, it is difficult to use multiple indicators together to get a good estimation. It is obvious that generated signals can be judged only by noticing the actual price action. Therefore, to avoid confusion avoid using more and more indicators when good results can be received by few indicators.