Technical Analysis: Is it voodoo? Or does it work?

[Soultrader 12]

One particular topic I have been thinking about recently is technical analysis. The markets never change because human behavior will never change. Anyone involved in the markets will know that we are not really trading the markets. We are trading other people. Thus human behavior reflects market behavior and we are able to exploit recurring price patterns to profit from. That is the core belief in technical analysis.

 

However, technical anaylsis and price patterns have mainly been studied and researched for daily charts. In intraday trading, do this patterns still remain valid? Classic price patterns such as the head-n-shoulder and triangles have become widely popular among the trading public. What was once an edge is no longer present. That is why false breakouts, pattern failures have become a popular trading strategy among professionals.

 

My biggest question is this: do technical analysis work when day trading the futures markets? From my personal experience specializing in the dow mini futures, the answer is no. Let me explain:

 

Classic head-n-shoulders patterns can stilll be traded successfully with a different set of guidelines. The only reason why they work is simply because price is unable to make a higher high than its previous peak. This indicates weakness and traders will usually short this pattern. Amatuers will usually short the break of the neckline. This is usually too late into the move. I have learned that trading soley on technical patterns is a sure way of losing. Many professionals are fully aware that amateurs love trading price patterns. Therefore, they have made tweaks in the rules and guidelines for trading these patterns. Pattern failure is fairly common in the dow futures.

 

Another favorite by the trading public is double bottoms and double tops. Amatuers love shorting new lows. In the dow futures market, the markets will usually trade 5-8 points below the previous low just to reverse and rally. The markets need to test new lows and highs to see if there is significant buying or selling pressure in these levels. When professionals realize that the only participants involved are small traders, they will usually reverse it in the oppposite direction.

 

Regardless of any pattern or technical indicator, price is king. Tape reading and volume analyis are pure information that can help you trade with an edge. In the futures markets, you need to be able to define key support and resistance levels. These are the high probability trade zones. There are different ways in finding these zones using, fibonacci cluster levels, pivot points, moving averages, etc.... You must find something that you feel comfortable trading with. I specialize in using pivot points, pivot point clusters, and market profile. Others prefer moving average cluster zones. I strongly believe trading off these key levels give you a higher probability trade than relying on technical price patterns.

 

I have had the opportunity to day trade with many professionals . I have yet to meet a trader who relies soley on technical price patterns. Of course we are all aware of the pattern. The only time I will trade a pattern is when it lines up with a key price level in my market analysis.

 

Do your homework and know your market. Hard work and preseverance is the key to trading success.

[Soultrader 12]

Hey J.Lee, thought you might want to take a look at this article:

 

Why does technical analysis work?

 

 

 

Thanks Lisa. I like to emphasis more on classic price patterns. I do recognize candlestick patterns but these patterns are not taught in trading books. They are patterns that I just recogniize from years of trading experience. I do not look for standard price patterns such triangles and flags. Instead I look at the bigger picture. For example, one particular pattern I see over and over again is a low, a higher low, then a 61.8% fib retracement from the swing low to the swing high. To me this pattern represents a low in place and will usually look for a long entry at or near the fib line.

 

Most of my trading methodology involves pivot points and market profile. These are technical tools but different from technical indicators such as Moving Averages, ADX, RSI, MACD, etc... I do not like using lagging indicators. I like to base my trading on price action alone. I hope this clarifies things.

[Guest cooter]

It's pure voodoo, alright! Voodoo economics at its finest. And it works. That's all I really care about.

[torero 10]

I'm obliged to defend trading price patterns because I use it. I think people use it in different ways from what it was originally taught by the early pioneers. Over the years, newbies or instructors come with different interpretation and perceptions on how these patterns work. I, for one, use them daily to daytrade. But I thing I would like to emphasize, and this goes for other types of technical analysis using indicators etc, is that price patterns in higher timeframes than the timeframe you use to make your entries and exits are the ones that work.

 

Many people assume that the same price patterns forming in the same timeframe they use to trade work at a higher percentage. They do happen but I always rely higher timeframe pattern to confirm my direction and timing of my trades. 2nd, many make their entries without pattern confirmation... big mistake. I always wait for the break of the pattern, pullback or retrace, then proceed in the expected direction, that's when I come and not come in at the first break. As market change where more and more fakeouts, false moves, etc keep fooling the average trader that confirmations become a necessity to trade successfully. I also use patterns along with S/R and Pivots, so it's not a be-all, end-all strategy. Like everything else in trading, nothing by itself works, combine with other things work wonders.

 

The concept behind price patterns is well... price. So Price is King in patterns. If you take a look at the formations, they are an advanced version of price action... how? higher highs and higher lows or lower highs and lower lows. So, back to head-and-shoulder, what do you see? Higher high/higher low, then the right shoulder... what happens? Lower high/lower low. Same logic as price action to me. I think alot of people assume price projections from patterns are bunch of bull. Fine by me. At least I have a target to shoot for and determine my R/R before committing a trade. I know price projections (measured moves) work very well in Forex.

[brownsfan019 17]

Here's what TA can work in futures on an intraday basis - TA is simply a self-fulfilling prophecy. The more people 'seeing' the TA setup, the more likely it is to work.

 

For example, in one of the threads here, someone posted a 'pinochio' bar chart setup. I never heard of it. But, in candles that was simply a gravestone doji. So, if candle traders are shorting the doji and bar chart guys are shorting the pinochio, price may travel lower simply b/c of the amount of shorts entering the market. And since each of us may enter at different intervals, it's simply a matter of if there are enough guys trading the doji/pinochio setup to drive it lower.

 

So, it can be argued that the TA was in fact what pushed the price lower to the point where the tape readers got interested as well. I really believe it's just a matter of how many things line up at/around the same time on the majority of traders charts. That's all. If you have a trade that failed, all that says was that the majority of traders out there did not see what you did. Trades that work are simply telling you that the majority of traders 'agreed' with you, but not necessarily b/c of the exact same reasons. I don't think that discounts TA at all. I mean, I am successful trading with candles and moving averages, so I could argue that if you are tape reading and not making serious money, tape reading is lagging. My point being that the setups themselves - whether tape reading or TA or flipping a coin - is simply one part of the overall picture of why your trades win or lose.

[walterw 10]

I want to add my input... market performs by itself (not by TA), the forces of supply and demand basicly respond to the psicology of the masses... wich is fear and greed... now TA reflects whats happening in a wide variety of presentations, who has the edge ? maybe the aproach that understands that finally what moves the market its the big smart money.... so here on TA you have "aproaches" that do take into acct the smart money and others that dont.... so I cant mix all aproaches on the same bag and say TA doesnt work, because TA with this so diferent considerations have very different outputs.... TA is an accesory.... if you understand whats behind TA (true market performance) then you are near to success.... cheers Walter.

[notouch 10]

Newbies often get frustrated with TA because they use it incorrectly. Typically they'll do something like put RSI on a 5 minute chart and buy every time the line crosses above 30 and sell every time the line crosses below 70. Or they may buy every time they see a hammer on the 2 minute charts. They'll lose money and conclude "technical analysis doesn't work". TA is just a way of reading the markets. Looking at the daily YM chart for example we can see a double bottom then a rally then a 50% pullback of the rally then a doji then a dragonfly doji. What's that telling you? It's telling you supply was cut off at the low, then strong buyers came in but the buyers took the price too far up so it retraced but then strong buyers came in again. Using TA to read the markets we could see that a further rally was a strong possibility and the market acted as expected.

 

Also TA isn't just about candles and indicators. Volume analysis and Market Profile are forms of technical analysis.

[dalby 10]

all studies of price/volume, or aggregates of same (tick, etc.) are TA.

 

asking if TA works is like asking if surgery works - sometimes, and if in the right hands.

 

but it's not 100% and there is a fair amount of subjectivity to decisions

 

the one thing that drives me NUTS is when people say that technical analysts believe, or that TA implies that ALL knowledge is "priced in". that's stupid. all that is necessary for TA to work is that enough information is "priced in" such that one can make plays with positive expectancy.

 

it does not follow that ALL fundies etc. are priced in. that's as absurd as efficient market theory is absurd,and for the same reasons.

[dalby 10]

soultrader, you contradict yourself. you argue that TA does not work in a particular instance, then support the fact that it does

 

market profile is TA

 

so are pivot points

 

as well as patterns (i don't use patterns much either)

 

but they are ALL ta

[walterw 10]

dalby : I think that what Soul wants to mean is that TA by itself its meaningless.... the market performance as he call it " price is king" is the true reality and TA its just a way of looking at it... thats what I understand as the spirit of the thread... cheers Walter.

[dalby 10]

"My biggest question is this: do technical analysis work when day trading the futures markets? From my personal experience specializing in the dow mini futures, the answer is no. Let me explain"

 

that's what i'm responding to. that's a pretty clear statement. he said TA does nt work when day trading the futures market. then, goes on to say how it DOES work - iow, contradiction.

 

fwiw, the study of PRICE is TA.

 

if ALL you are watching is tape (the purest way to see just price and nothing else) no charts, no indicators, etc.

 

that's TA

 

pivot points, support/resistance, etc.

 

TA

[walterw 10]

yes probably we would get into a stupid semantic discussion of what is TA .... now being an indicator junki and not understanding what the market its doing would be the negative TA interpretation, as being wise of what the market does and use a pair of good sound tools would be the positive TA interpretation... I think we all agree with that... put the name you more like it... but thats the lesson here... cheers Walter.

[Kiwi 16]

I'm with dalby.

 

Most arguments against TA are generated by first defining TA in some limiting way. And said limitations are almost always as wrong as they are convenient to the arguer. Now James's offence is less egregious than usual but he's still doing it. Bad boy Soul.

 

If its based on price or price an volume or some combination of these then its technical analysis.

 

FWIW I trade based on Price alone using a couple of mas as a prop to help me see what longer time traders perceive as recent value in a trend. No volume. No market profile. No volume at bid/ask. No reading action on the dom. Just nice bar charts with a couple of mas to prop up my sense of current value. It works on usindexes, commodities, bonds, estx50, bund, eurfx, nikkei, kospi and that fiend that would have pleased fu manchu, the HSI

[dalby 10]

i hate semantical wanks as well

 

i see a lot of people who use TA (especially market profile) want to distinguish THEIR form of TA (the alleged scientific non-voodoo kind) from other TA

 

the simplest way to look at it is - if it's not fundamental analysis - it's probably TA

 

and if it relies on price, or any derivative of same - it's TA.

 

thus, market profile is TA (although most MP users hate to admit that) etc.

 

fwiw, i love TA. and i trade the dow minis intraday

 

i also love fundies. i have bought some investments without even looking at any charts whatsoever.

 

but i would not do that with an intraday futures trade, needless to say

[brownsfan019 17]

i hate semantical wanks as well

 

i see a lot of people who use TA (especially market profile) want to distinguish THEIR form of TA (the alleged scientific non-voodoo kind) from other TA

 

the simplest way to look at it is - if it's not fundamental analysis - it's probably TA

 

and if it relies on price, or any derivative of same - it's TA.

 

I didn't realize certain types of traders using some form of TA argue that 'their' form of TA is not actually TA. Makes no sense to me whatsoever. If you are using price, some form of charting, and some analysis that does not look at market fundamentals, that's TA as far as I am concerned. It's either TA or FA, right? So, unless you are reading company reports, checking PE ratios, etc. you are using TA.

[dalby 10]

brownsfan, it is pretty common out there in the wild regions of the internet. of course here, on this exalted board, it is a lot more rare.

[Anonymous 11]

Before I get into the meat of the discussion, I would like a few terms DEFINED:

 

1. WORK : A skillful trader can throw darts at a dartboard and win 2 times out of 10, but if wins 10x as much on the winners as he loses on the other 8, he is break even. Now break even may not be "working", but there are other forms of TA that produce 7 winners out of 10 and the users LOSE money.

 

So let's first define WORK.

 

2. TECHNICAL ANALYSIS : Do all things NOT fundamental fall into this category? Market Profile may in fact fall outside our definition of TA. Moon phases are not fundamental, but should that method be placed in the same area as Volume Spread Analysis?

 

3. FUNDAMENTAL ANALYSIS : Management teams, account balances, position within a certain industry, domestic economy, interest rates, run rates, weather. These are fundamental factors, correct?

 

Although we first need to define TA: It is the fundamental tenant of Technical Analysis that EVERYTHING THAT IS KNOWN IS ALREADY REFLECTED IN PRICE. PRICE IS REALITY. Crop reports, GDP, the FED, all is ALREADY baked into price.

 

Auction Market theory would state that the sole purpose of the market(S) is to find that place where there is an agreement on PRICE and a disagreement on VALUE. Here Value does not refer to the Market Profile notion of Value Area.

 

ex. Trader 1 values the money he can get now more than the beans he has. Trader 2 values the beans more than the money he now has. Both traders disagree about value and the auction process will find the appropriate price.

 

but I'm getting ahead of myself....................

[weiwei 10]

My experience on trading with TA indicators is this.

 

On swing trading,(using of daily chart, holding of more then 2 days). TA with price derived indicators do work, but a lot of work to find the right fit for the right market. I do have a few swing trading systems which are doing very well base on TA.

 

on Intraday trading: Lagging indicators, such as RSI, CCI ect, has not been working for me. Only after I switch to "Now indicators",(tape, Volume with price, inter-market relationships) market starts to make sense for me and my trading become stable.

 

weiwei

[dalby 10]

market profile does NOT fall outside TA

 

all market profiles are is a model of price/volume over time

 

which is exactly what ANY chart is. its just a different way of modeling it

 

this is what drives me nuts is this ninja superspecial religiosity when it comes to Market Profile and that it's not TA like those icky lagging indicators etc.

 

TA is the study of price, and information derived from price

 

clearly, no equivocation, MP is TA

 

2nd. i get really tired of this stupid meme that TA means EVERYTHING that is already known is reflected in price. that is complete and utter rubbish.

 

you can CLEARLY get an edge using fundies, just like you can with TA. *if* all knowledge was reflected in price, this would not be the case.

 

i love TA. i make my frigging living using TA. but i don't play that silly "all information is reflected in price" game cause it's simply bogus

 

enough information is reflected by price, such that skilled traders can use TA (the study of price) TO trade successfully.

 

it does NOT follow that all is reflected in price.

 

i have made my best returns this last year using fundies, where i did not even look at a chart. because my edge (in those stocks) came from fundamentals.

 

there is this little academic myth called efficient market hypothesis (still the rage among many academics) that markets are efficiently priced. it's rubbish

 

there is this other myth popularized among many TA adherents, that ALL information is reflected in price.

 

this is ALSO rubbish

[Guest cooter]

Market Proflie is just a glorified barchart with its horizontal axis on its side. Another representation of time, price and (implicitly) volume - that's all.

[Guest cooter]

Market internals such as $TICK, $TRIN, $WPCVA and $VIX.X - do you consider these as leading or laggard in composition and application (how they're made up, and how they are used)?

 

My experience on trading with TA indicators is this.

 

On swing trading,(using of daily chart, holding of more then 2 days). TA with price derived indicators do work, but a lot of work to find the right fit for the right market. I do have a few swing trading systems which are doing very well base on TA.

 

on Intraday trading: Lagging indicators, such as RSI, CCI ect, has not been working for me. Only after I switch to "Now indicators",(tape, Volume with price, inter-market relationships) market starts to make sense for me and my trading become stable.

 

weiwei

[weiwei 10]

$ticks, use it a lot for intraday trading. To me market internals are not leading nor laggard. They tells me what is happening now with relation to price on Index markets. and helps me to compile that info for entry or exit.

 

weiwei

[notouch 10]

I hear what you say dalby. It takes time for price to reflect new fundamental information so to say all information is reflected in price is total nonsense. The price of corn is still reacting to a surprising fundamental report released on Friday and if this week's employment report is a shock the currency markets will still be reacting next week.

[Anonymous 11]

Technical analysis, also known as charting, is the study of the trading history (the price and volume over time) of any type of security (stocks, commodities, etc.) to attempt to predict future prices. In its purest form, technical analysis is concerned only with the actual price behavior of the instrument, based on the theory that all other factors affecting valuation will be reflected in the price before an investor can become aware of them through other channels.---wikipedia

 

Like it or not, if you use TA you are assuming that EVERYTHING THAT IS KNOWN ABOUT A STOCK, COMMODITY, INDEX, OR CURRENCY IS REFLECTED IN PRICE.

 

Does that mean that there is no such thing as a news surprise? Of course not. However, that news event will be immediately reflected in price and usually before most retail traders can react to it.

 

My personal dislike of the above definition has to do with the word PREDICTION. The future is unknown and not knowable. Prediction is not possible nor necessary.

[Anonymous 11]

* Please do not equate when news comes out and is known to ALL as meaning that there are not those who ALREADY know it. The playing field is not level. Smart Money has better, quicker, and more thorough access than the typical retail trader. ERGO price must reflect ALL known events.

 

And the news shocks? Well, if they are truly shocks then price will reflect them instantly. But it is a good bet that somebody knew something. *