In a previous chapter, we discussed what technical analysis is. In this section, we’ll take a look at the various indicators and patterns that are used in technical analysis.

The most basic tool of the technical analyst is the chart which depicts price action during a specified time period. Charts are useful for giving us historical information, and they can provide a snapshot of the market at the moment they are drawn.Let us look at the two main types of charts according to how they depict price movements:

Line Charts

The line chart is simply a graph of price points connected by lines. The vertical axis, as shown in the symbolic chart below, depicts prices, and the horizontal axis matches a particular time to each price quote on the vertical axis. Line charts are pretty simple and straightforward and the trader will have no difficulty in getting used to them with a tiny amount of practice.

The advantages provided by line charts are in clarity and simplicity: instead of cluttering the vision with highs, lows, opens and closes, the line chart gives a historical picture of the underlying trend, and the trader is free to make his interpretations. The line chart is perhaps best used to supply the trader with a basis on which he can build his trading strategy. Once he’s got a grasp of the underlying movement, he can use other, more detailed charting tools to precisely define where and when he will move to make a trade.

Candlestick charts

By the standards of technical analysis, the candlestick method is ancient. Its origin is thought to be 18^th century Japan, and legend credits a certain Homma Munehisa with its invention.

The candlestick chart packs a lot of information in a very concise and useful form: Let’s see an example in the graphic below:

The black candlestick signifies a market session that closed on a higher price quote. Conversely, the white candlestick tells us that the prices closed lower. The body of the candlestick shows the open and close values (when depicted on a price chart), and the top and bottom edge of the wick shows the highest and lowest values for the session.

Let us see the various types candlesticks the trader can encounter on any chart:

• Hammer – a bullish pattern during a downtrend (long lower wick and small or no body); Shaven head - a bullish pattern during a downtrend & a bearish pattern during an uptrend (no upper wick); Hanging man - bearish pattern during an uptrend (long lower wick, small or no body; wick has the multiple length of the body.

• Inverted hammer – signals bottom reversal; Shaven bottom - signaling bottom reversal, the hammer has no lower wick; Shooting star - a bearish pattern during an uptrend. The candlestick has a small body, a long upper wick, and a small or non-existent lower wick)

• Doji – the candle body is squeezed to a thin line, neutral signal.

• Long legged doji – signals a top reversal

• Dragonfly doji – when there’s no upper wick, and a long lower wick, the candlestick signifies a trend reversal to the bullish side.

• Gravestone doji – when there’s a long upper wick, and no lower wick, the candlestick signals a trend reversal to the bearish side.

• Marubozu white – no wick, depicts a beginning or continuing bullish trend.

• Marubozu black – no wick, depicts a beginning or continuing bearish trend.

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None of these trading styles offer an unblocked path to success, or a sure way to doom for the trader; the successful trader can choose any method he feels comfortable with. If he adheres to the basic principles of money management and risk control, education and experience, coupled with emotional discipline will be all he needs for a successful career. Most importantly, prudent risk management will ensure that even in the case of failure, the trader will suffer only as much as he deemed tolerable, and the loss can even be considered the fee for the lessons learned, and the enjoyment or excitement derived from participating in the dynamic markets of forex.

Trading styles are useful in showing the many diverse approaches to trading. In that sense, it’s likely that the beginning trader will eventually develop his own style in time, and there’s no reason to assume that such a style will be inferior to the ones we discussed above. Let’s repeat our mantra once more: No indicator, no style, no method, no forex robot or technique will offer the sure path to success in the markets. Success is only achievable through study and discipline. When choosing a method it’s most important that you give foremost consideration to your own character, experience and knowledge, instead of worrying about the particularities of the method itself. In any case, the generalizations we outlined above are only valid for educational purposes: There’s no such thing as a pure scalper or a pure day trader. As mentioned before, flexibility in adapting to the market while not giving up discipline in managing our assets and risk is one of the prerequisites of a successful trading experience.
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Forex scalping aims to make use of small price movements and the bid-ask spread in order to turn a quick profit in a short time. Although each profit is naturally small, significant sums may be gathered by persistent trading.

The most basic form of scalping is the usage of the bid-ask spread. The scalper attempts to make a very quick profit by exploiting this gap during periods of price fluctuations. As volatility causes the bid-ask spread to widen, the scalper moves very quickly to turn the price movement into profit. There are other traders who don’t utilize the bid-ask spread, but generally trade very small sums for very short periods with the hope of patiently accumulating gains over a longer time period.

Scalping can be a relatively low risk method for the consistent and disciplined trader who knows when to cut his losses and is cautious about taking only the trade that meets his predefined standards. Successful exploitation of the bid-ask spread can be especially fruitful, but it depends on the ability to avoid periods of stress and volatility in the markets. At times of great stress, the bid-ask spread can rapidly widen to unexpected levels and the stop-loss order placed by the scalper may rapidly lose its significance, wiping out the gains of considerable past effort. The scalper must have clear goals, discipline and acquire time-tested money management skills in order to avoid being swallowed when the market turns nasty.

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Forex swing trading is a form of range trading. The swing trader attempts to capitalize on periods of market indecision, and aims to make use of support and resistance lines, channels and price patterns such as tops and bottoms in formulating his strategy.

This style offers greater odds of success for beginners as it doesn’t limit the trader’s attention to a couple of hours (unlike day trading), and because the swing trader doesn’t need to invest a lot of time trying to identify the perfect price for entry and exit. As long as the price remains within the range identified, and the periodic reversal patterns persist, the trade will return a profit. When the range breaks, the swing trader has no illusions about what he must do. His period of bounty is over; he can enjoy his profit and rest as he awaits the next suitable period.

Needless to say, the main requisite for successful swing trading, as with trend following in general, is the correct identification of the range or trend. In doing so, the employment of both fundamental and technical analysis perhaps offers the greatest rewards, but the trader will usually choose the method that he favors the most. In either case, gaining a good understanding of the type of market experienced for a particular currency pair and formulating a defined strategy on that basis is the best course. As previously mentioned, the swing trader does not need to be precise about the entry and exit points; all he needs to do is catch the main movement, taking profit as soon as the price action runs out of speed at a point close the limits of the range identified.

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Forex day trading is the style of the short-term speculator. The reasoning behind a day trading style, is that there are times when exceptionally fast market developments allow exceptional profits in a very short time. Day traders in general will not hold a position for more than a few days, and the best among them are alert, quick, decisive and disciplined about what they want from the market, and the ideal conditions for a trade.

This method requires that the trader be nimble, and that he flee from danger like a rat, and chase opportunity like a cheetah. Needless to say, such speed and alertness require strong nerves and will from the trader, and it’s crucial to know where and when to act without hesitation when the decision is made. Successful forex day traders have, in fact, predefined expectations from the market, and they will only react to the “perfect" scenario, where the conditions are ripe. Indeed, there are circumstances where a quick profit can be made by quick reaction to incoming data. The bull market of the 90’s was an exceptionally lucrative time for day trading stocks, as initial public offerings allowed massive profits to be made through the indiscriminate daily purchase of new firms.
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What is a trading style? It’s simply what a trader or speculator enjoys or feels most comfortable doing while interacting with the market. They can be valid for both long and short term trading, and for different styles different indicators and technical patterns have greater significance. Nonetheless, we should always keep in mind that the market is not bound to submit to our choice of style. The day trader could easily find himself in a swing trading situation, and the swing trader may end up following the trend, depending on how the market decides to behave.

What is the proper style for a beginning trader?

There are in fact only two types of trading: long-term and short-term. While the beginning trader is excited about his “debut”, and desirous of maximal profits over a short period of time, the fact is that at his level of experience and knowledge, he’s the least suited to a short-term trading method. Because of the shorter periods of exposure to the market’s whims, scalping or day trading may sound like the surest ways to success for the beginner. But, because the market’s behavior is more or less random in the short term, the habitual day trader or scalper may in fact be exposing himself to much greater risk by minimizing foresight and predictive capability. It’s hard to know what the next move will be when dancing in the arms of the bipolar short-term market.

The beginner may benefit from some short-term, very low-risk trading activity to gain understanding of the various trading concepts and tools of technical analysis. But, as soon as he’s willing to embark on serious activity, he’d be well-advised to focus on trading psychology, rather than trading style.

Of course, once the trader feels confident that he knows what he’s doing and has a reasonable amount of experience and knowledge about the markets, he can make his own choices about which trading style, which indicators and which currency pair he’s most interested in trading. But, it’s important to keep in mind that the best style is a flexible style, and that adaptability and humility are better than any preconception about the kind of trader we’d like to be. Let the market make the choices. How much control do we have over its decisions, anyway?

Let us take a look at the several different kinds of trading styles for short term activity.
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Needless to say, any method that works is a good method. Conversely, any trading method that fails — however convincing the arguments behind it — is useless. While this is so, it’s often hard to characterize what success or failure is for a forex trader. A trade that was a failure when it was closed can easily become greatly profitable for you a short while later, and vice versa. Many times the losses suffered by forex traders are caused by emotional problems related to a lack of knowledge or confidence, rather than any flaw of the method used. Thus, when determining which method you would like to use and how to use it, you must first determine your own goals and capabilities, so you can choose the most suitable method for your trading goals.

It’s quite clear that for long-term, investment-minded traders, fundamental analysis offers the greatest potential return over a long period of time. Those who focus on fundamental analysis will be able to ignore the day-to-day fluctuations in the currency markets, and will also be able to avoid the pitfalls associated with whipsaws and similar sudden and unexpected movements. However, doing so requires a great deal of patience and emotional resilience — not to mention a significant investment in time and energy — before you have enough confidence in your skills, and can ride through the sometimes scary corrections and counter-trend movements. To be sure, the trader can gain the necessary confidence through study and patience, which means that success in the forex market requires no special talent or intellectual genius.

For short term investors who want to get into the thick of the action in the market and make sense of the nonsense out there, technical analysis is obviously the best tool. Those with experience in forex trading know only too well that in the short-term, even the most convincing news releases or statistics might fail to move the market in the anticipated direction, and in some cases, the market may react unfathomably to fundamental factors. Technical analysis is the tool of the financial rodeo rider, who wants to tame the raging beast of the markets, and we can only admire him for his courage and be astonished at his success when he achieves it.
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The beginnings of technical analysis is usually dated to the Dow theory, and to the early part of the 20^th century. Over the years, many contributors have created indicators, oscillators and moving averages of all sorts to increase the arsenal which the trader can utilize to understand the forex market. But the basic principles of technical analysis have remained the same:

• Prices discount all available information
• Prices trend (in other words, price movements are not random)
• Historical data is useful for predicting future developments

As noted previously, technical analysis is useful for analyzing price patterns that emerge as a result of global economic activity. Thus, it’s different from fundamental analysis: Its effectiveness is greatest when market participants are the most emotive; the total turnaround in the market is constant with little new money entering or exiting; and economic fundamentals are of short-term value only.

This may perhaps appear counterintuitive to what many have come to believe over the years. But in fact, those who are most successful in using technical analysis are those who follow the long-term trend, and the long-term trend is merely another name for what is called the “big picture”, as painted by fundamental analysis.

Technical studies are useful for determining entry and exit points, because the information provided by fundamental analysis is too vague when it comes to price and quotes. While not precise, technical analysis does provide the trader with a number of tools for determining points of action, and the trader can use any method that he feels comfortable with, provided he knows what he's doing.

On a final note, although the new forex trader may perhaps be overwhelmed by the vast number of indicators and such that are available for his use, the good news is that only one from a each type of indicator will usually provide all the data necessary for trading. Later, we will examine indicators in detail.

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