People ask what technical analysis has to say with the current stock market conditions. It doesn’t decide things ahead of time, and the most it can honestly tell us is so far so good.
We could say that we are at a turning point with today’s stock markets. Which direction we are heading from here has attracted a lot of interest and speculation, as well as quite a bit of disagreement.
People may rightly wonder who is right here, or more appropriately, who is righter, as predicting markets isn’t about knowing something will happen as much as it is knowing what is more likely to happen than not. This is not a game where we can point to a given instance and say that since we were right and they were wrong, then our view is superior, as it might be that we are only right 1 out of 10 times and they are right 9, and this is just the one time out of 10 that came out in our favor.
This is important to understand when looking to predict anything about financial markets or financial instruments, where the goal isn’t to be right all the time but to be right more often than we are wrong. That’s the best we can ever hope for, as there is no secret method here that works all the time or even close to it, but we don’t really need one either.
Our predictions will always be probable ones, based upon looking at various sorts of data that are correlated by various strengths. The entry point here is a positive correlation, which makes our prediction probable, and then we may look at other approaches which may be even more probable and choose the most probable.
Technical analysts do this by looking at recent price data and compare this with what has happened in the past to derive their predictions. Technical analysis, when applied correctly, actually derives its power not so much from the reliability of their past data, but from their focus being directly related to price such that analysis and decisions may be made on the fly instead of subjecting our view to the added risk of needing to have our predictions manifest further in the future.
A simple illustration of this would be to compare with someone who is using external data like company reports or economic forecasts to predict the future price of a market. We might look at what we know about where this data is trending to predict results for the next quarter, the next year, or even further out, depending on what we are trying to do with this data.
These data do get amended from time to time, where we can re-assess and recalculate, every few weeks perhaps, but a technical analyst need only look toward the next bar, the next day or however long our bars are on a chart. This allows our decisions to be amended much more dynamically.
If we were trading the Dow on a daily chart, for instance, we could just ride one wave after another, and the current wave may look good today, but tomorrow could change that, where we may exit and even trade in the other direction. Technical analysis can therefore be set to be as sensitive as we want it to, to allow us to achieve our goals in a way that is much more adaptive than external valuation criteria such as earnings or how the economy is growing.
Nothing Explains Price Like Price Does
Technical analysis at least has the potential to be driven exclusively by price action, reflecting a direct view of what the market is doing rather than just basing our predictions on loose correlations which indicate where the price action may go. This is a powerful advantage which a lot of technical analysts, particularly those who use traditional techniques, don’t really appreciate enough.
There are a lot of different ways that technical analysts may measure price action, some much better than others, and the success of technical analysis therefore depends on the skills of the analyst. This is the case with all market analysis, but much more so with those who ply their trade with charts.
There is a growing view out there, even among some technical analysts, that classical techniques such as support and resistance don’t work as well as they used to, but these techniques always had limited applicability to indexes, due to their being a conglomeration of a basket of stocks, and at best this is all dependent on past behavior being maintained well enough.
If the Dow or the S&P is at an important price level, a support level for instance, these support levels derive their validity from traders jumping on to reverse the pattern at these levels, an intentional act. Each stock has its own price points though, and while indexes themselves are traded as well, a lot of this trading is based upon buying and selling the individual stocks.
A lot of the trading action may not even be looking at what look like important levels on the charts of the index they are tracked on, and while this technique can still produce some decent results at times, it is removed from the action more than a stock would be.
At the present time, we are at important levels with the S&P and the Nasdaq, with the Dow approaching one, and moving through these levels or not in the near future is seen as important to everyone, not just technicians.
The part of this that confuses so many people is the fact that technical analysts, at least the ones that base their techniques on price action, aren’t trying to do the same thing at all as the fundamental analysts are. Fundamentalists may look to the next few months for instance, and make their predictions, and then ask the technical analysts what they think about this.
Technical Analysis Doesn’t Need to Foretell the Future
The technical analyst would respond with something like things look pretty good right now, but we’ll continue to see how this all plays out. Technical analysis done right is never about predicting the future at all, it is instead focused upon analyzing the present, and tomorrow’s results will be judged tomorrow.
We still need to predict, but we’ll confine ourselves with predicting things one period at a time, whether that be one day at a time or whatever interval on our bars that we are using. There is no need to cast our view beyond what is right in front of our face, and if we can assess the present properly, it’s simply easier to do that more accurately than with a bunch of guesses about the future.
People do attempt to use technical analysis to make future predictions of some sort and quality, like for instance something trading in a range likely continuing or where it may stop and reverse. In some cases, these views may be tradable, meaning likely to deliver some sort of profit if these signals are acted upon, but this can leave the trader with little direction should the move not proceed as hoped. Sure, you can exit, but that may or may not be the optimal play.
A sound and comprehensive plan involves providing us direction, and preferably clear direction, in all instances, whether we should be long, short, or neither. We could cherry-pick certain patterns which may occur from time to time, and these might produce good results, but we really can’t do much of that with indexes due to the low number of opportunities that occur.
This is the sort of thing that is on the way out with technical analysis, even though it is far from out now. Perhaps we should say that it should be out, but someone has to show people the way, and you won’t learn this studying the same old material and methods.
It does not even make sense to ask an attuned technical analyst where we are headed even over the next few months, because they don’t even care about such things, nor do they have to. This does not mean that even long-term traders, who at least think they need to predict things well in advance, cannot benefit from these assessments of what is going on right now.
Technical analysis really should not differ much whether you are trading second bars or monthly ones, whether you plan on holding something for seconds or years. The principle is the same, you follow the money.
The money is telling us we are moving up right now. Perhaps it will start telling a different story in the days and weeks to come. If so, those who have tried to predict this and bet money on their predictions may be disappointed, but those who just judge markets by their direction don’t even need to try things like this.
With all this said, the weekly charts of the major indexes all look strong from a short, medium, and long-term view, and especially since they have regained strength after a brief period of consolidation. Investors who are looking for strong technical signals to get out are seeing nothing of the sort right now, in fact we’re quite a way from anything like this in fact, even though this is very much subject to revision.
If you are using weekly charts, each week paints a new bar on it, and the most we can say is the one we’re currently in looks good. We do need to speculate at least somewhat to make money in the markets, but speculation involves things like uncertainty and risk, and the less we need to do, the better off we will be.