Technical analysis is the strategy most commonly employed by day traders.
The field of technical analysis is far more approachable than you might expect. Yes, it has to be learned, just as with any profession. Technical analysis is often taught as part of an online trading course. But technical analysis for day traders is simple to understand and easy to apply. More importantly, technical analysis does not only relate to dry analysis and comprehension, but actually offers a practical strategy for stock trading.
For day traders, technical analysis involves searching for technical “signals” in stock charts for the purpose of forecasting future price trends. While technical analysis focuses on price changes, it takes no interest in the reasons for those changes.
In contrast to technical analysis, fundamental analysis attempts to predict price trends based on a company’s performance (including changes in volume, profitability, demand for the company’s products, management, cash flows, and more). Fundamental analysis is usually employed by long-term investors, who do not expect to see their predictions realized in the short term. Therefore, they hold their positions in the hope of seeing them turn fruitful in the long term. The main tools these investors use are the company’s balance sheet, analysts’ recommendations, information gleaned from the media, and hearsay.
Three Basic Premises for Using Technical Analysis in Day Trading
The technical day trader’s three basic premises are as follows:
- The change in price embodies all market forces. In other words, the stock price expresses everything that can impact the price: economics, psychology, politics, etc. Therefore, all that is needed is to follow the price, which reflects changes in supply and demand.
- Prices move in trends. Trends are cyclical and, therefore, generally allow us to predict their direction.
- History repeats itself. For more than a century, technical analysts have been assisted by graphs plotting stock trends. Technical analysts believe that future price movements can be predicted based on this past history.
Technical Analysis Alone is Not Enough for Day Trading
While technical analysis is an important strategy for day traders, technical analysis alone is not enough. Even if you study all the books ever written on the subject, can quote them by heart, and can write software that operates according to their doctrines, you’d still fail if that is all you do. At the most, only 10% of technical analysis components actually work, but not in a vacuum. If you know which of technical components to isolate from all those available, and how to integrate them with other components unrelated to technical analysis, you have a good chance of succeeding. In fact, some day traders have found great success by integrating the tools of technical analysis with those of fundamental analysis. For more on this, see the lesson titled “How to Combine Technical and Fundamental Analysis in Day Trading.”