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You Can't Become Rich In Your Pocket Until You Become Rich In Your Mind | ||||
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In fact, since many option strategies are relatively short-term in nature, its important to use technical trading tools to help improve the timing of certain tradesTECHNICAL ANALYSIS Technical analysis evaluates securities by analyzing statistics generated from market activity, such as past prices and volume, to gauge the forces of supply and demand. Furthermore, technical analysis is built in part on the theory that prices display repetitive patterns. These patterns can be utilized to forecast future price movement and potential profit opportunities. Technical analysts study the markets using graphs and charts to determine price trends and gauge the strength or weakness of an investment (stock, futures, index, etc.). The technical analyst is trying to understand the past price trends of the stock or commodity in order to try to determine price patterns that will forecast future price movements. The type of analysts that use this method of predicting stock movements are sometimes called technicians or chartists. Do I believe in technical analysis? Absolutely. I believe a good technician can look at many factors and determine future price action with a certain degree of accuracy. In fact, since many option strategies are relatively short-term in nature, its important to use technical trading tools to help improve the timing of certain trades. Many options traders use technical analysis more than fundamental analysis for that reason. However, no person or computer can predict the future 100 percent of the time. We need to use all the information available about the markets in the past and present to attempt to forecast the future. Although many a profit has been made from complex technical charts, there are no crystal balls. Therefore, we recommend studying technical analysis and using it when implementing trading strategies, but dont rely exclusively on charts, patterns, or other technical trading tools. The simplest and most widely used technical analysis tool is a moving average. A moving average is the analysis of price action over a specified period of time on an average basis. This typically includes two variables (more can be used). For example, we may look at the price of gold trading right now and how that price compares to the average over the past 10 days and the average price over the past 30 days. When the 10-day average goes below the 30-day average, you sell; and, conversely, when the 10-day average goes above the 30-day average, you buy. Technicians go to great lengths to fine-tune which time spans and averages to use. When you find the right time frames, the moving average is probably the simplest and most effective technical tool. Moving averages and crossovers can be very useful tools. To keep their strengths and benefits in perspective follow these five suggestions regarding their use: 1. If you get a buy or sell signal and you take on a position, keep that position until the 18-day line goes flat or changes direction. Do not take on a new position until there is a proper realignment of all three averages. 2. To protect accumulated profits along the way use the 50-day moving average as an exit point. 3. Think of the 50-day moving average as a support or resistance line. 4. Moving averages work very well in uptrends and downtrends and not as well in sideways markets. Thats because in sideways markets, you can get buy signals near tops and sell signals near the bottom. If you trade on those signals, you will more than likely incur losses. 5. Finally, because moving averages do not work that well in sideways markets, which can occur a fair amount of time, use caution. Try to find stocks that trend a great deal if you plan to rely on this tool. Moving averages are a time-tested tool, and I would urge any new market technician to understand their proper use and application. Another technique is to use a momentum indicator. This technical market indicator utilizes price and volume statistics for predicting the strength or weakness of a current market and any overbought or oversold conditions, and can also note turning points within the market. This can be used to initiate momentum investing, a strategy in which you trade with (or against) the momentum of the market in hopes of profiting from it. Its one of my favorite ways to trade because I can spot stocks, futures, and options with the potential to make money on an accelerated basis. Finding these explosive profit opportunities is the key to highly profitable trading. Briefly, a momentum investor looks for a market that is making a fast move up or down at a specific point in time, or there is an indication of an impending movement. Like a volcano about to erupt, a great deal of pressure starts to build, followed by an explosion for some time, with a calm thereafter. A momentum investor might miss the eruption but be able to catch the market move right after the eruption. Different techniques are used in each case. To catch the first move (another example is that of a surfer trying to ride a wave), you have to see the signs, place the appropriate strategy, and then get ready to get off when the momentum (or eruption, or wave) fizzles. This can be hours, days, or weeks. If you miss the first move, its best to wait until the movement fizzles and then look to place a contrarian trade. If you wait until there is a slowdown, you can then anticipate a reversal. If you employ a contrarian approach, you will be trading against the majority view of the marketplace. A contrarian is said to fade the trend (which suits me just fine). Very fast moves up lead to very fast moves down, and vice versa. Trading, investing, and price action are driven by two elements fear and greed. If you can learn to identify both, you can profit handsomely. Momentum investing plays off of these two human emotions perfectly: greed not to miss a profit opportunity and fear that profits made will be lost if the market reverses course, thus intensifying the reversal in many cases. There are hundreds of technical analysis tools out in the marketplace. Be very cautious with those that you decide to use. Make sure you thoroughly test these systems over a long period of time (i.e., 10 years or more). Both fundamental and technical analyses have their proponents. Some traders swear by one and hold great disdain for the other method. Other traders integrate both methods successfully. For example, fundamental analysis can be used to forecast market direction while technical analysis prompts profitable trading entrances and exits. Most investors have had to use trial and error to determine which methods work best for them. Ultimately, it depends on what kind of trading you are more inclined to use, and which methods you are most comfortable employing. When you begin to select investment methods, try to determine why they work, when they work best, and when they are not effective. Test each method over a sufficient period of time and keep an accurate account of your experiences. If possible, you should always back-test systems as well. You can use trading software to back-test almost any technical analysis technique available. Inevitably, as the markets change, suitable methods of analysis will change also. The key is to remain open-minded and flexible so that you can take advantage of what works. |
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