Chart analysis is the very foundation of successful trading in financial markets. In today's review, we are going to discuss how to analyze charts of financial instruments, draw relevant conclusions and make forecasts regarding further price movement.
There are several techniques used to analyze the graphic behavior of the price.
Each of these methods allows performing forex chart analysis. However, in order to make an informed trading decision based on the given information, the traders need to use a specific trading strategy. It can be based on one of the listed methods or combination thereof.
The fundamental goal of the chart analysis is to identify where the price is going to move next. From a practical standpoint, to analyze the charts correctly, you need to understand when and what type of trade to open, and when to exit it.
To improve trading literacy, you will need to familiarize yourself with various types of analysis, even though you will chiefly use those which form the backbone of your trading strategy. You can create it yourself or use a ready-made one.
So, a key principle of chart analysis is to learn the ins and outs of the methods that will be used with your trading strategy.
The second principle is the confirmation of the trading signal. It’s best if the trading strategy includes two or three analytical methods. These can be a technical analysis and trend indicators, or technical analysis and candlestick patterns, or a combination of trend indicators and oscillators.
Let’s take a look at the chart analysis as exemplified by EUR/USD pair. We shall use a combination of technical and candlestick analysis for this.
Key tools: horizontal technical levels, ascending, descending and sideways channels.
Auxiliary tools: technical analysis patterns (head and shoulder, pennant, triangle, double and triple bottom, double and triple top). Additionally, you can use candlestick patterns on higher time frames (doji, absorption, etc.)
You should also know how to choose the right time frame for the analysis. If you are using a ready-made trading strategy, it typically indicates the relevant time frame. In our case, we shall use a comprehensive technical analysis, starting with the highest time frame (monthly one) and gradually moving to the one we will be trading with (hourly time frame). Why so?
1. The basic rule of timeframe analysis is this: the higher the time frame on which the level formed and worked out, the stronger it is.
2. The patterns of the technical analysis on higher time frames signal a longer reversal or trend continuation.
3. Candlestick patterns on monthly and daily charts also provide strong signals.
Before we get started, we need to pick the chart for the analysis. The most common and insightful one is the candlestick display of the price which we will be working with.
To demonstrate how to analyze the charts using the aforementioned methods, we will use an example of the EUR/USD pair.
1. Open a monthly chart of EUR/USD and mark strong technical levels and trends:
2. Now let’s move to the weekly time frame and find additional graphic elements for the analysis. Using dark blue horizontal lines, we shall mark two additional levels — 1.1717 and 1.2100 — which are closest to the current price.
3. Let’s take a look at the technical picture in the daily chart. We can clearly see the sideways trend between strong monthly levels 1.1603–1.1732 with interim daily level 1.1717. By the way, when the price bounces off the resistance, we can see reversal candlestick patterns of bearish absorption. At the time when they formed, there was a strong (double) reversal signal i.e., bounce off the resistance level downwards confirmed by the candlestick pattern.
4. These are the conclusions we can draw based on this:
5. After that, we are looking for additional levels on the 4H and 1H time frames. Using a dashed line, we are going to mark local interim levels.
It is just one of the examples illustrating the chart analysis. All traders should have such a checklist customized for the strategies they are using to trade in financial markets.Login in Personal Account