Technical Analysis - The Art of Reading Markets Through Charts
What is Technical Analysis
Technical Analysis (TA) is a methodology that attempts to predict future price movements by analyzing historical price data and trading volume. It is widely used in stock, forex, commodity, and cryptocurrency markets, with charts serving as the primary tool.
The core idea of technical analysis is simple: price reflects all available information, and price movements exhibit repeating patterns. Therefore, if you can read charts, you can gain insights into market participants' psychology and clues about future price direction.
Unlike fundamental analysis, which examines financial statements or a project's technology, technical analysis focuses solely on market data itself—price and volume. It's an approach that emphasizes "when to buy and sell" rather than "what to buy."
The History of Technical Analysis: Charles Dow and Dow Theory
The history of technical analysis dates back to the late 19th century. It began with Charles Dow, founder of the Wall Street Journal and creator of the Dow Jones Industrial Average. In the early 1900s, Dow published a series of editorials outlining his theories about market movements, which were later compiled into Dow Theory.
The core principles of Dow Theory are as follows:
The 6 Principles of Dow Theory
- The market discounts everything - All information, including economic data, political events, and psychological factors, is already reflected in price.
- The market has three trends - Primary trends (months to years), secondary trends (weeks to months), and minor trends (days to weeks).
- Primary trends have three phases - Accumulation phase (smart money enters), public participation phase (trend develops), and distribution phase (smart money exits).
- Indices must confirm each other - Signals from one index are more reliable when confirmed by another index.
- Volume confirms the trend - Price movements in the trend direction should be accompanied by increasing volume.
- Trends persist until definitive reversal signals appear - Existing trends are assumed to continue until evidence of reversal emerges.
After Dow, numerous analysts and traders including Ralph Nelson Elliott (Elliott Wave Theory), J. Welles Wilder (RSI developer), and John Bollinger (Bollinger Bands) have developed technical analysis tools and theories. Today, technical analysis has expanded to include hundreds of indicators and automated analysis systems combined with computer technology.
The 3 Fundamental Premises of Technical Analysis
Modern technical analysis rests on three core premises rooted in Dow Theory.
1. The Market Discounts Everything
Price already reflects all factors affecting an asset. This means all economic indicators, corporate earnings, regulatory changes, and investor sentiment are incorporated into the current price. Therefore, technical analysts believe that analyzing price alone is sufficient.
This premise isn't perfect. Information not yet known to the market (such as insider information) may not be reflected in price. However, the premise that price represents the sum of all public information is the starting point of technical analysis.
2. Prices Move in Trends
Prices don't move randomly but form directional movements called trends. Patterns such as uptrends, downtrends, and sideways (range) movements exist, and once formed, trends tend to persist unless disrupted by external shocks.
Because of this premise, drawing trendlines and using moving averages becomes meaningful.
3. History Repeats Itself
Ultimately, markets are moved by people. Human psychology—greed and fear—remains unchanged across eras, which is why price patterns that appeared in the past tend to repeat in similar ways in the future. This is why candlestick patterns and chart patterns have remained valid for decades.
Technical Analysis vs Fundamental Analysis
Technical analysis and fundamental analysis, the two pillars of investment analysis, view the market from different perspectives. Let's compare their differences in the table below.
| Aspect | Technical Analysis (TA) | Fundamental Analysis (FA) |
|---|---|---|
| Subject of Analysis | Price, volume, chart patterns | Financial statements, technology, team, market size |
| Core Question | When to buy and sell? | What to buy? |
| Time Horizon | Short to medium-term (minutes to weeks) | Medium to long-term (months to years) |
| Data Type | Quantitative (numbers, charts) | Qualitative + Quantitative |
| Applicability | Same methods apply to all markets | Asset-specific analysis required |
| Learning Curve | Pattern and indicator learning | Industry and financial knowledge required |
| Strengths | Advantageous for timing | Advantageous for intrinsic value assessment |
| Weaknesses | Difficult to judge fundamental value | Difficult to determine entry/exit timing |
Most experienced investors use both analyses together. They select investment targets through fundamental analysis and determine entry and exit timing through technical analysis. In the cryptocurrency market particularly, there's a trend toward also utilizing on-chain data analysis as a third methodology.
Key Tools Used in Technical Analysis
The tools used by technical analysts can be broadly divided into three categories.
Chart Types
- Candlestick Chart: The most widely used chart type. Visually displays open, high, low, and close prices.
- Line Chart: A simple chart connecting only closing prices. Useful for grasping overall trends.
- Bar Chart: Similar to candlestick charts but in Western style. Represents OHLC in bar format.
Technical Indicators
- Trend Indicators: Moving averages (MA), MACD, etc., measure the direction and strength of trends.
- Momentum Indicators: RSI, Stochastic, etc., measure the speed of price changes.
- Volatility Indicators: Bollinger Bands, ATR, etc., measure the range of price fluctuations.
- Volume Indicators: OBV, VWAP, etc., utilize volume data.
Chart Patterns
- Reversal Patterns: Head and shoulders, double top/bottom, etc., suggest trend reversals
- Continuation Patterns: Triangles, flags, wedges, etc., suggest continuation of existing trends
- Candlestick Patterns: Short-term signals formed by individual candles or combinations of 2-3 candles
When Technical Analysis Works Well and When It Doesn't
Technical analysis is not infallible. It works better under certain conditions and has reduced reliability under others.
When It Works Well
- Markets with high liquidity: Technical analysis is more reliable for assets with high trading volume like Bitcoin and Ethereum, because many participants make decisions based on the same charts.
- When clear trends exist: Trend-following strategies are effective when uptrends or downtrends are distinct.
- When multiple indicators give the same signal: Reliability increases when multiple indicators such as moving averages, RSI, and volume point in the same direction.
- Near support/resistance: Price reactions at levels that have been tested multiple times historically have higher predictability.
When It Doesn't Work Well
- Sudden external events (Black Swans): Technical analysis is powerless against unpredictable events like regulatory announcements, exchange hacks, or situations like the Terra Luna collapse.
- Markets with low liquidity: In altcoins with low trading volume, a few large orders can break chart patterns.
- Using trend indicators during sideways markets: Trend indicators generate numerous false signals in ranging markets.
- New assets with insufficient historical data: Assets with short chart histories lack statistical significance in their patterns.
Technical analysis is a tool of probability, not certainty. All analysis is a probabilistic judgment that "this is likely to happen," and must always be accompanied by risk management.
Technical Analysis in the Cryptocurrency Market
The cryptocurrency market has different characteristics from traditional financial markets, and there are considerations when applying technical analysis.
- 24/7/365 operation: Since there's no market close, the reference time for daily candles may differ between exchanges. Using UTC time is common practice.
- High volatility: Volatility is higher compared to traditional markets, so you may need to adjust indicator settings or set wider stop-loss ranges.
- Possibility of market manipulation: Particularly in smaller altcoins, so-called "pump and dump" schemes can occur, requiring caution.
- Integration with on-chain data: Thanks to blockchain transparency, on-chain data such as wallet movements and exchange deposits/withdrawals can be used alongside technical analysis.
A Roadmap for Learning Technical Analysis
If you want to systematically learn technical analysis, here's the recommended sequence:
- Understand basic concepts: First, learn chart structure, candlestick meanings, and trend definitions.
- Support/resistance and trendlines: Learn how to find key price levels where prices react.
- Volume analysis: Understand the role of volume in validating price movements.
- Technical indicators: Starting with moving averages, sequentially learn RSI, MACD, Bollinger Bands, etc.
- Chart patterns: Learn reversal and continuation patterns and practice identifying them in real markets.
- Develop comprehensive strategies: Combine the tools you've learned to create your own trading strategy.
This guide series will cover each topic in depth following the sequence above. However, before that, it's important to clearly understand the limitations of technical analysis.
Next article: Limitations of Technical Analysis - Why You Shouldn't Trust Charts Alone