Importance of Technical Analysis in Stock Market
If the fundamental analysis was all about learning more about the market sentiments, technical analysis is about analyzing the company’s worth by mathematical methods inferred from statistical trends generated by trading activity, price movements, and volume. One of the most repeated terms in the study and practice of this technique is “The Law of Large Numbers” which in probability and statistics means that as sample size i.e. number of active traders in our case grows, its mean gets closer to an average of the whole population. In other words, predicting the market movement is possible with various quantitative analysis techniques which are also part of technical analysis itself.
Technical analysis differs from fundamental analysis because the latter focuses on business-centric metrics such as EBITDA, Valuation, Balance Sheets, etc, and does not take into effect the stock side of the equation. Technical analysis on the other hand has a narrower focus and concerns itself with the stock prices only. That is why technical analysis is often used to solve short-term trading problems only.
What is Technical Analysis?
The modern technical analysis practice dates back to the late 1800s and was introduced by Charles Dow as the famous Dow Theory. Over the course of years and contributions made to the theory, technical analysis has developed to include a multitude of patterns and signals. The basic assumption in the practice of technical analysis is that past trading activities and price changes of a financial instrument can be indicative of future price movements when passed through appropriate algorithmic trading functions. To reiterate, technical analysis aims to make sense of the market sentiment accompanying the price trends instead of analyzing the company’s fundamental attributes. To that extent, if we are to understand technical analysis we must take into account the following assumptions commonplace in the modern scenario.
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