Basic knowledge of technical analysis
In this section we will look at different types of charts that traders can use to perform technical analysis of currency pairs.Chart category
Technical analysis consists in observing and interpreting charts to identify the greatest possibility of establishing a transaction. The three most widely used chart categories are line charts, bar charts, and candlestick charts. The following are related examples.
In the above three types of charts, the most basic is the line chart. This is formulated by connecting a series of data points (such as the closing price of a currency pair) into a line. As you can see from the above example, this line basically follows the price action, so traders can determine the direction of the trend based on the past data points shown. Generally speaking, line charts are used for a longer period of time to easily and quickly determine what kind of trend the currency pair has in a specified period of time.
Bar charts can provide valuable additional information for traders. Now let ’s zoom in on the column chart and focus on a column to see what information it can provide us.
What we are looking at is the daily chart-that is, each bar represents the trading price of the currency pair within 24 hours. In particular, the column will show the price of the currency for the opening of the market, the highest and lowest prices reached during the time period, and the last price of the currency pair for the day. The figure below shows this information.
*The new daily column will open at 5 pm EST, because the previous column will close at the same time.
The additional information provided here can greatly help traders. For example, a trader may learn that the currency pair continues to rise in this period, because the closing price is higher than the opening price. Finally, we will look at the most widely used type of foreign exchange trading chart-candlestick chart. Below you will see the basics of candlestick chart interpretation.
Just a little look at the daily candlestick chart, traders can instantly understand the advantages of using this chart compared to line charts and bar charts. Based on the color of the candle – blue represents a bullish candle with a closing price higher than the opening price, and red represents a bearish candle with a closing price lower than the opening price – you can clearly see which days have upward momentum and which days have downward power.
Now take a closer look at the picture above.
You can see that the information provided by the candlestick chart (highest, lowest, opening and closing prices) is the same as the information provided by the bar chart. However, when expressed in this form, the information becomes clear at a glance, the reason being the color of the candle.
When studying any candle, you are optimistic about the candle and bearish the candle. The top of the wick and the bottom of the wick indicate the highest and lowest prices of the currency pair during that period. In addition to color, the main differences between bullish candles and bearish candles are the positions of the opening and closing prices.
Since the closing price of the blue candle is higher than the opening price, the top of the body is the closing price, and the bottom of the body is the opening price. In the case of red bearish candles, the top of the body of the candle is the opening price of the currency pair during that time period, and the bottom of the body of the candle is the closing price of the currency pair ... that is, the opposite of bullish candles.
When using candlestick charts, please keep in mind that when you use different time periods, each candlestick chart will only represent that time period. Therefore, if you are looking at a daily chart, each candle represents a day (24 hours). If you refer to a 4-hour chart, each candle represents 4 hours, and so on. Among the three charts presented here, the candlestick chart provides all the necessary information in the easiest way at a glance.
You should now understand these three main charts and how to use them in trading.
Determine the trend
You may have heard the saying "Trend is your friend". When it comes to trading, this is the most appropriate. Being able to identify the trend of currency pairs – the direction of movement of currency pairs over an extended period of time – will greatly benefit traders. Trading according to the trend direction of the daily chart is like running down the wind. The difference is that traders have market incentives to support their transactions when trading.
The first step in determining the trend is to look at the daily chart of each currency pair to find the strongest trend in each direction.
Here are a few examples of currency pairs showing strong trends.
If the currency pair emerges from a strong uptrend, it can be easily identified from the daily chart. It should not be difficult for traders to know in which direction the currency pair is moving. If the trader fails to determine the direction, he can choose another currency pair because we are looking for the most powerful trend to trade.
From the above NZD / USD daily chart, we can see that the currency pair is on the rise. In addition to visually seeing the trend of the currency going up and to the upper right of the chart, we can also notice that the currency pair has always established a higher maximum price (shown in green) and the highest minimum price (shown in red) while rising ) To confirm the uptrend.
When trading in an uptrend, a good strategy is to wait for the currency pair to retreat to the support level, and then follow the direction of the daily trend to establish a long position (buy). In the above chart, once the upward trend is established, traders can open long positions near the points shown in red in the chart. This technique is called "bargain buying." The stop loss can be set below the lowest point of the buying and selling price of each time the currency pair takes.
When trading in a downtrend, the opposite method will apply. Please see the picture below.
When the currency pair has always established a lower maximum price (shown in green) and a lower minimum price (shown in red), a downward trend can be identified. In this case, the trader can wait for the currency pair to retreat to the resistance level (shown in green), and then establish a short position following the direction of the daily trend to trade in the downtrend. Above the highest point of trading. This is called "sell on rallies".
The point here is that when trading in the direction of a daily trend, the trades established by the trader will be more likely to succeed because these trades are backed by the momentum of the entire market. Although trading in the opposite direction of the trend can earn ideas, the ideas earned by counter-trend exchanges will involve greater risk. As traders, we want to manage the risk of each transaction as much as possible.
You should now know how to determine the trend of currency pairs.
Multiple time period analysis
Multiple time period analysis is a method of analyzing currency pairs by observing multiple charts of different time periods for the same currency pair. The advantage is that by observing a longer period of time, and then a shorter period of time, and then a shorter period of time, traders will have a more detailed understanding of how the currency pair moves, thus making it more In the case of a transaction.
Generally speaking, traders will choose three time periods, and the relevant time period will be determined according to the trader's personal trading strategy. Longer-term traders can choose weekly, daily and 4-hour charts. Short-term traders can choose 4 hour, 1 hour and 15 minute charts. The main point is to determine the "overall trend" and the direction in which to buy and sell based on the longest chart. Then use a shorter period of time to "fine tune" which level in that direction to open a position.
You may have heard of "trends in trends". For example, in the daily chart, the trend may be an upward trend, while in the 4-hour chart, it may be a downward trend, and in the 1-hour chart it may be flat ... All trends are about the same currency pair.
In this scenario, the overall trend is based on the daily chart – that is, rising. However, within this uptrend, there was a turnaround within a 4-hour period. The reversal of the trend is likely to end at a certain point, and the 4-hour period tends to be consistent with the daily chart. For the same reason, there is a 1-hour trend within the 4-hour period. As the 1-hour trend coincides with the 4-hour trend and the 4-hour trend coincides with the daily chart, a higher entry point will appear.
In summary, when the shortest period of time has completed the reversal (reversal refers to the trend that we noticed opposite to the trend in the daily chart), and begins to move in the direction of the daily trend again, we hope to establish a transaction. This is our signal to enter the market. Imagine that they are a tumbler of a combination lock, all of which tend to be consistent in order.
Through the use of several time periods, traders can gain an in-depth understanding of currency pairs on three different levels and learn to use the information to successfully establish transactions when the probability of success shown in the time period is highest.
Now look at some charts of AUD / USD.
In the above chart, we can see that the currency pair is on the rise. Based on the above information alone, we know that we only want to look for buying opportunities. Since it is now at the top of the uptrend this time, it is not the best time to buy a currency pair, as a turnaround may soon occur.
Now let's see if the chart with a shorter period of time illustrates this transaction.
In this 4-hour chart, we can see that the currency pair is still in an upward trend (higher maximum price and higher minimum price), and a support level has been established in the red line position of the chart. If the support level can be held, traders can open a long position at this point, because the currency will move towards the upward trend of the daily chart again. (However, if the closing price of the candle is below the support level, we can wait until another bottom is formed before establishing a long position.) More conservative traders may wait for the currency pair to break through the black line resistance before establishing a long position.
The important point related to the analysis of multiple time periods here is that before making a market entry decision, we can use a shorter time period chart to carefully study the trading of currency pairs.
Now look at the 1-hour chart of this currency pair.
It can be seen from the 1-hour chart that the support level (red line) has been tested many times. This solidifies the view that this support position may hold, and may become a starting point for climbing upward again. If the closing price is lower than the support level, as shown in the 4-hour chart, we can wait to establish a long position until a new bottom is established. However, for greater confidence, traders can wait until they rise above the resistance level and the closing price of the candle is above the resistance level (black line). The closing price is above this level, indicating that the buyer controls this time period again.
Using the charts of three different time periods of AUD / USD, we expect to show how traders can use multiple time period analysis to deepen their understanding of how the currency pair works and how to optimize the market entry in the trend direction This gains greater confidence.
Support and resistance
Support and resistance levels are the most important items in technical analysis. Take a look at the chart now.
As you can see from the chart above, the support level is the price level at which the currency pair is difficult to break through, while the resistance level is the price level at which the currency pair is difficult to break through. Imagine a room between support and resistance. The support level is the floor and the resistance level is the ceiling. The currency pair will move between these two levels until there is a "breakout" in one direction.
Theoretically, the support level is a price level where demand (purchasing power) is strong enough to prevent prices from falling further. The rationale is that as prices gradually approach the support level and become cheaper in the process, buyers will consider this to be a more cost-effective transaction and more likely to buy. And as transactions become less and less cost-effective, selling convenience becomes less likely to be sold. In this scenario, demand (buyer) will overwhelm supply (seller), and this will prevent prices from falling below the support level.
Traders may think that the support level may not always hold up. When the price fell below the support level, it showed that the seller won the competition with the buyer. A break below the support level shows that the current trading mentality is to sell more than buy. After falling below the support level, traders can expect another support level to appear at another point where the buyer opens a position.
On the other hand, the resistance level is a price level where the supply (selling power) is strong enough to prevent the price from rising further. The rationale behind this is that as prices gradually approach resistance and become more expensive in the process, sellers are more likely to sell, while buyers are less likely to buy. In this scenario, supply (sellers) will overwhelm demand (buyers), and this will prevent prices from rising above resistance levels.
Just like the support level, the resistance level may not always be able to hold up. Breaking through the resistance level shows that the bulls (buyers) overwhelm the bears (sellers). Since the resistance level has risen, buyers now have a greater desire to buy at higher prices, because prices continue to move upwards, and it seems unlikely to fall back. Once the previous resistance level is surpassed, a new resistance level will be formed at the level where the seller establishes a position.
As a general principle, the longer the chart period, the stronger the established support and resistance levels. In other words, the support and resistance levels reflected in the daily chart will be stronger than those of the 1-hour chart.
Let me share with you a long-standing principle of support / resistance. After breaking below the support level, the level will become a new resistance level. When the resistance level rises, it will become a new support level. Now return to the room analogy mentioned earlier. Suppose you are in a two-story building, and you fall through the floor and fall to the next floor. The floor that has always supported you has now become the ceiling above you ... and the original support level (the previous floor) has become the new resistance level (new ceiling). Conversely, if you jump high to cross the ceiling of the room, you will stand on the previous ceiling, which is now the new floor.
Now look at this concept in the chart.
As can be seen from the above chart, when the buying and selling prices of currency pairs go down, the original support line will fall, and then become the current new resistance level. When it rises above the resistance level of the chart, it becomes a new support level.
As you can see from the figure below, by looking for the "congestion" part of the chart, you can identify the support and resistance levels ... This is where buyers and sellers are fighting for control.
In addition, traders can link the recent minimum support level and the recent maximum resistance level to establish these levels.
In the uptrend, once the trend line is established, when the buying and selling price approaches the support level and is affected by the support level so that the closing price of the candle body will not fall below the support level, a new long position can be established. Ideally, if the trend line is to be considered valid, the price action needs to show three "touch points" on the line. Before the appearance of the three touch points, there is not enough evidence that the trend line is the real trend line.
In the downtrend, once the trend line has been established, whenever the price approaches the resistance of the trend line, and the closing price of the candle body does not exceed the line, a short position can be established. When using range trading strategies, support and resistance levels are very important. In the chart below, we can see how this AUD / JPY currency pair continues to trade between established support and resistance levels. Traders engaged in range trading will buy at the support level and sell at the resistance level. Traders can repeat this strategy before the breakthrough occurs.
Importantly, traders must be able to identify the main support and resistance levels in order to successfully practice technical analysis. Since interpreting charts is not completely scientific, it is very difficult to establish accurate levels. Simply noting the existence of these levels and their approximate positions on the charts can improve the analytical skills of traders.
In summary, if the closing price of the currency pair is at an important support level, it prompts traders to pay attention to buying pressure and signs of potential reversal. On the other hand, if the currency pair is moving towards important resistance levels, it prompts traders to pay attention to selling pressure and signs of potential reversal.
If it breaks through the support or resistance levels, it will be a sign of a change in the relationship between supply (seller) and demand (buyer). If the support level is broken, the seller is now in the upper hand, and if it rises above the resistance level, the buyer is now in control.
Stop loss and limit price
Setting a stop loss and a limit price is an important part of achieving a successful transaction. Adding a stop loss to the transaction will close the transaction at a preset price lower than the current price. Imagine that they are a safety net, which will prevent you from incurring more losses on this transaction. Stop loss is often set according to a certain percentage loss of the trader's account size, or according to the support and resistance levels. These are two of the more widely used standards. No matter what method is used, it is very important to set a protective stop for each transaction. If they are not set, traders may incur huge losses.
The limit price allows the trader to close the position, but it is closed above the current price. Limit prices are often based on support or resistance levels, but sometimes they are also based on risk-reward ratios. You can view the limit price as the "target" of the transaction, that is, the price you want to leave when the market moves in a direction that is beneficial to you. Although many people do not think that the limit price is the same as the stop loss for prudent trading, the limit price is very useful for assisting traders to make a key decision when to close the transaction.止损的设置
Basically, the protective stop should be set in a logical position on the chart, that is, if our trading assumptions are correct, the market will "not buy or sell". Let us look at the chart to illustrate this.
In the trading scenario described in the chart above, the currency pair is in a downward trend. It also follows the trend line we drew on the chart. On this basis, every time the bid-ask price rises to the resistance level of the trend line, and the closing price of the candle does not rise above this line segment, we can establish a short position. We can see that the currency pair rose to the trend line, but the closing price did not rise above this level. We can sell currency pairs at this point.
Our trading stop loss can be set above the trend line to give the currency pair a little breathing room. If we are setting a stop loss at the currency pair trading level, we may have to bear the risk that the buying and selling price will rise to the same level again, and then the transaction will be closed before the buying and selling price moves in a direction that is beneficial to us. Since this is a daily chart (the longer the time period, the wider the stop loss distance should be) and the GBP / AUD is a more volatile currency pair, our breathing space for stop loss should be more than the 1-hour chart of the less volatile currency pair many. We set the stop loss in the "currency will not trade" part. If the currency pair is really bought and sold in this part, we want to close the transaction because the trend line no longer exists and our trading plan is no longer valid.
In this case, a stop loss between 50 and 75 points above the trend line may be appropriate. This will allow the price to form a sharp shape at a moderate level above the trend line without causing the transaction to be closed.
Now look at several other methods of determining stop loss.
Using the same chart, but using the Fibonacci Retracement tool, we can see that the price has turned to 38.2%, which is the same position where the buying and selling price touched the trend line in the previous example. Once the trader observes that the price conforms to one of the golden section levels, he can set a stop loss on the golden section line to establish a short position. Traders can again apply 50-75 points of stop loss and golden level above the bid and ask price.
The ATR (Average Real Area) indicator can also provide information on where we need to place a stop loss outside the pending order. When you set the average real area on the chart, it can tell you about the average distance the currency will move in the chart period.
As can be seen from this 1-hour chart of GBP / CHF, the 1-hour average real area of this currency pair is 50 points. This means that this currency pair has the opportunity to move an average of 50 points per hour. If we open a long position on this currency pair at 1.6494, a stop loss can be established at 50 points below the pending order (that is, 1.6444).
One of the key points of establishing a stop loss is to give the currency pair some room to move. Novice traders often set very narrow stops because they do not want the trade to incur significant losses. Although this thinking process is reasonable, it is likely to make you fail. Setting a stop loss near the buying and selling price of a currency pair is almost like asking for a stop loss to trigger.
Another factor that should be considered when establishing a stop loss is the size of the trading account. Most novice traders are surprised by this. However, the most important thing for traders is not to set the stop loss distance too wide, so that a large percentage of the account is exposed to risk.
One way to monitor this situation is to follow the 5% rule. Traders should not expose more than 5% of their accounts at any time. Taking the average real area of the above GBP / CHF 1-hour chart as an example, we can see that according to the average real area method, a 50-point stop loss needs to be established. If my account is $ 1,000, 5% is $ 50. Therefore, according to our rules, a trader whose account amount is equal to this amount can establish a transaction with a 50-point stop loss. If a stop loss is triggered, the $ 1,000 account will become the remaining $ 950 after suffering a 5% loss. Following the 5% rule, traders cannot open any additional positions, because this will cause their accounts to incur losses of more than 5%. Most professional traders seem to follow the 1% or 2% rule in this category.Create a limit price
The limit price can be set near the support and resistance levels or the risk-reward ratio to close the transaction.
The above chart studies the risk-reward ratio method. Traders should always follow a risk-reward ratio (RRR) of at least 1: 2 for each transaction. In the picture above, we set a 50-point stop loss on the transaction. To follow the 1: 2 risk-reward ratio, we will double the amount of the stop loss (2 x 50 = 100), and we will set the stop loss at 100 points above the pending order price of 1.6501.
We can see from the chart below how to use the support resistance level to determine the exit point.
In this chart, we can see the first resistance level (R1) and the second resistance level (R2). Price action has long stopped at the R1 position, and that may again constitute an obstacle. Therefore, traders may choose to close all or part of their positions when the price approaches this level again. Suppose the price rises above the R1 level, and the next target will be R2 at about 1.6700. We can see that the 1.6700 level on the left side of the chart was successfully used as a resistance level earlier, and is likely to be used as an upper limit again when the currency pair approaches this level.
Risk management is an important part of trading, and stop loss and limit price are one of your most powerful risk management tools. Remember to take a moment to set the stop loss and limit price in the demo account to experience the transaction process.