Why Technical Analysis Does Fail

Ready to learn, does technical Analysis work?

A lot of traders lose money at stock trading every day. They use technical analysis incorrectly, and there are no perfect indicators on the market. However, many traders wonder whether trading is easy or not.

Technical analysis is getting harder every day with technological advances. Most big institutions use computers to automate their trading, and retail traders cannot compete with algorithms daily because it is too difficult.

Traders say that technical analysis does not work on stock trading because they do not use the same settings in indicators.

For example, someone will use 14 periods in RSI while others will set it 30, 20,5, or 2. Moreover, indicators are lagging at predicting the next market move.

When I started trading, I use two moving averages, but now, I do not do it anymore. I did not make any profits in the long run with short-term trading.

Sometimes, I make money using MA50 and MA200, but mostly, I lost.

Moving average is a popular technical indicator even today. That is the reason why it has lost its edge in the market.

You may have heard of using the risk-reward ratio to minimize risks, but it did not also work for me.

I’m not saying that risking smaller than your profits do not work; it is just not compatible with the moving average.

There are hundreds of technical analysis tools, and who knows which one works in stock trading.

However, few indicators are still worth it in trading this time. In my experience, there are four in the technical analysis, but it does not work all the time. Moreover, I use the risk-reward ratio in trading to lessen the risks.

I will share those things with you later.

History of Technical Analysis

According to Wikipedia, technical analysis principles originated from hundreds of years of financial data starting in the 17th century. It evolved to candlestick techniques which we use in charts today.

Would you believe that the candlestick charts have originated in Asia? Homma Munehisa invented it in the early 18th century. I would have thought it to come from advanced economies or countries like the United States.

All charting software includes technical indicators to help traders analyze the market. In the future, there will be more of them, but only a few will be useful because some of them are results of curve fitting.

In the past, technical analysis was purely an analysis of charts, but now, we have supercomputers that can analyze and trade the market in seconds.

Technical analysis, does it work now?

You probably heard of Algorithmic Trading earlier that most hedge funds use. Computers are now trading in the markets to reduce errors and increase profits.

Today, traders are having worries about artificial intelligence in trading, but it is still in the early stages.

People have created the algorithms, and you should not worry. They still have to develop it because as long as there is a human touch; it will never be perfect.

Is Technical Analysis real?

As a whole, technical is real, and it is usually a method used to analyze the price action of a security in a trading market. Most traders use technical analysis for short-term swing and day trading.

Although many traders can use it in the long-term horizon, it usually shows delayed visual representation of the price action. (source)

Python Stock Technical Analysis

At Quantopian, you can use their free services to test algorithms, yet you need to learn how to code in python.

I am still learning to code in their platform currently. You can learn about the python with free tutorials on YouTube.

In this decade, we have all the things we need in trading, yet most of us do not use it in our advantage.

However, if you do not want to use Quantopian, you can use Amibroker instead.

The program is easy to use in back testing and auto trading currently. Technical analysts should use it daily.

How to learn technical analysis?

The best ways to learn technical analysis are:

  • Books and online courses.
  • Practice and
  • development of skills.(source)

You should learn from books to gain an understanding of stock trading.

Why do technical indicators fail?

According to Tradingsim, most indicators fail because of the following:

  • Lagging Indicators.
  • High-frequency trading.
  • The success rate of a trading strategy is not known.
  • The risk-reward ratio is not applied.

Technical indicators use past data to confirm and not to predict. Moreover, the signal that it gives is usually after the event had already happened.

For example, the Simple Moving Average(SMA) and MACD are lagging indicators, and SMA can lure you into a lot of losing trades.

However, I use MACD in my technical analysis with breakout anticipation. You can search the strategy on this website.

You have learned about high-frequency trading above. Competing against supercomputers is not good for you because you can’t just do keep up.

Well, you should follow them instead of going against them.

The success of a trading system must be known to apply the risk-reward ratio properly. You can only do that by back testing.

Even Justine Bennett also ditched technical indicators in his trading because of his difficulties of using it. I think he trades in the Forex market with price action.

I am trading stocks, yet I found the same similarities here. I was intrigued by that article, and I read it from top to bottom.

However, he did not say that all indicators were bad in his post. Just like me, I use a few that are effective.

He encourages everyone to use price action in your trading.

I love reading about trading systems. One day, I read an article in trade-ideas to get information about why technical analysis does not work.

Here is what I found:

You can see that it is just an indicator not a guarantor.

However, there are still tools you can use in trading with high success rates.

Because a lot of people ask in this forum, I have explained below what’s the best indicators you can use, but you have to understand it so that you can use it.

Does technical analysis work?

Technical analysis does work in stock trading with the right strategies. In the charts, you can find the price to buy the company, but you have to combine it with other studies.

Why does technical analysis work in stock trading? Well, the price of the stock incorporates all the information of the company already.

The price will move up due with good fundamentals theoretically.

Momentum trading is an example of technical analysis to find strong stocks. In addition, this style is my favorite because I can see immediate results, whether it is time to buy or sell.

I have shared below all the technical indicators I use daily.

How reliable is technical analysis? Technical analysis is reliable only if the set-up had undergone extensive testing using the historical and recent price of the security. Testing is required to determine the performance of the system because not all Technical Analysis is robust enough to make trading profits.

Is technical analysis worth learning? Technical analysis is worth knowing, considering that buying or selling security still requires looking at the current price to have the best possible price. Without looking at the price, there is no evaluation process on whether a stock is expensive or not.

Why technical analysis does not work? Technical analysis does not work when the settings used becomes popular, and it has lost their slight edge. The thin advantage is not available anymore due to the increase of competition. So, it is essential to keep on optimizing a trading system.

Best technical indicators for stock trading

You have learned why technical analysis is difficult in real trading, and you know that indicators confirm signals with low precision.

Let’s talk about what are the best analysis tools.

In my experience, I have found that 52-week high, RSI, and MACD work well in the stock market, but I don’t combine all of them.

I only use one or two.

I have written many articles on this website, and I have shared all my techniques to use it.

The 52-week high is my favorite in stock trading with fundamental analysis. I use it daily because the indicator is not subjective, and you do not have to worry about what settings to use.

Unlike other technical indicators, there is only one setting, and that is 52-weeks.

Most traders use it for different trading strategies to find profitable entries and exits. Besides, everyone is looking for a breakout except contrarians.

The 52-week high is also a profit taking level in the chart. It is an area in the chart with so many sellers.

I do not buy at the high to lessen the risk of the trade. Well, I only enter the trade when the price is below the top.

You probably read some books that recommended about buying at the breakout, but hey it is usually too late.

RSI is also effective in day trading to find good set-ups. Previously, I used 2-periods for my stock trading to buy at the bounce, but now, I do not use it anymore. RSI is a mean reversion indicator for short-term trading.

You can also use 30-periods for momentum plays in the daily time frame. I have written a post about momentum scans to share what I know.

Let’s talk about MACD. I have been using it on my trades to find potential breakouts.

Well, I look at the bars in the indicator to see if the price has stretched enough.

Do not use MACD for divergence trading because it fails many times.

When the bars are large, it means the price has expanded very much, but if the bars are small, there is a strong possibility of a breakout.

However, you should use the indicator only at the support and resistance levels.

Best Way to Learn Technical Analysis

The best way to learn technical analysis is through the continuous reading of books, watching online videos buying courses, learning from mentors, and testing indicators. Testing indicators can be through utilizing trading tools such as Amibroker and Tradingview.

Amibroker can backtest or optimize technical analysis faster with simple AFL codes. The AFL codes can be a set of codes for Quantitative or Systems traders.

Wrap Up

Technical analysis is hard in stock trading if you do not know what tools to use. In addition, I have shared to you some of the best indicators I use.

However, you should combine technical and fundamental analysis in your trading system. Other traders may disagree with me to bash me, yet you can study it yourself.

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