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This technical analysis article discusses how the technical information can be applied to trading commodities and futures.
Technical analysis is the favored analytical tool used by most investors in making decisions as to what position to take in commodities and futures trading. Technical analysis is the study of price movements, principally by the examination of historical prices via a chart, in order to predict future price trends. These charts will be graphic representations of price, volume, and open interest.
The three theories of technical analysis
The three hypothetical foundations of technical analysis are:
• All available information is already reflected in the price
• Prices move in trends
• History repeats itself
It is a firm belief of all technical analysts that regardless of the type of information (economic, psychological trauma political, etc.), it has already been discounted by the market and is reflected in the price. Based on this premise, a historical analysis of previous price movements will allow the investor to predict future movements. It is obvious to any individual when looking at a longer-term price chart that prices trend. The goal of the technical analyst is to identify these trends and to follow them for profitable returns. Repetitive patterns are revealed in examinations of extremely long term charts. Since these patterns seem to have worked in the past, it is assumed when they reappear they will continue to work in the future.
The value of timing in analysis
Critical in technical analysis is not only pattern and trend recognition but also timing. As all investments in commodities and futures trading are highly leveraged, timing is critical. In clear trending markets, there is still variation and volatility in price. A relatively small correction can result in the elimination of the original margin requirements in any single trade. Therefore when using technical analysis, one must not only identify the trends, but also properly find the appropriate entry and exit points.
The universal application of technical analysis
The greatest attraction of technical analysis is its universal nature in every market and timeframe. This allows the investor to concentrate his time and wherewithal on those markets clearly demonstrating trending action, while avoiding stagnant markets that are in equilibrium. As most markets are going nowhere for roughly 80% of the time, technical analysis identifies opportunities where warranted. As a result, an individual investor can focus his attention in funds to the market that will maximize his return. These techniques work in every market, whether in interest rates, foreign exchange, or commodities. Traders have used this type of analysis for time frames as short as a few minutes to as long as decades.
The weaknesses of technical analysis
Technical analysis, nonetheless, is not without its critics. Recognition of chart patterns is thought by critics to be completely subjective. They maintain that no study has been able to be made to mathematically quantify any of them.
Though this may be true, technical analysts maintain chart recognition is an acquired skill. Chart patterns are rarely black and white. They are always subject to interpretation. The fact remains, almost all investment funds and successful traders utilize the techniques of technical analysis. Price movements are not random. Technical analysis does not dispute the fact that movements and prices are fundamentally caused by the laws of supply and demand. As all available information is already reflected in the price, the people who use these techniques rely on prior price movements to forecast their future.
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