In this post, we tackle the knowledge bit of forex trading, specifically, we help you understand what forex technical analysis is, and the technical indicators in the MT4 trading platform that can speed up your analysis.
What exactly is technical analysis?
When you buy or sell currency pairs, you do so with some understanding of where those currencies are headed. Technical analysis is based on the belief that past trading activity is valuable in predicting future price movements.
An analysis of historical volume and price data can reveal patterns and signals. As a technical analyst, you identify these patterns to determine the probabilities of where the exchange rate is headed.
Principles of technical analysis
- The currency price reflects current market information.
- Price action repeats itself as investment decisions are not entirely uninfluenced by emotions. Investor behavior repeats itself, forming recognizable price patterns on charts.
- The market can move up, down or sideways. So, prices trend directionally upwards, downwards, flat or some combination.
The mathematical tools to derive the future price of currencies are called technical indicators. The two main technical indicators are overlays or trend-following indicators and oscillators.
Overlays are plotted on top of prices of forex charts. They show the movement and strength of a current trend. If the trend is moving in either direction with strong momentum, then traders can decide to enter a position. Moving averages and Bollinger Bands are examples of overlays.
A moving average is an average of the closing price over a timeframe (minutes or days, as the trader wishes). It creates a constantly updated average price, allowing you to tell typical fluctuations and actual rate reversals apart.
A Bollinger Band helps spot overbought or oversold signals. It comprises of three lines: the middle band is a simple moving average; the upper and lower bands are standard deviations over a 15-, 20-, 30-, 50- or 100-day simple moving average (the timeframe is customizable).
Oscillators vary between two points on a graph that show short-term overbought or oversold conditions. Oscillating indicators are not overlayed on the price chart, rather, plotted above or below it. Common oscillators, which are also popular technical indicators in forex trading, are relative strength index (RSI), moving average convergence difference (MACD) and stochastic oscillator.
To recap, when you use technical analysis you do two things: identify trends and identify support or resistance using price charts. By using this system, you’re considering probabilities as opposed to predictingthe future direction of prices.
Advantages of technical analysis for forex trading
Forex traders agree that technical analysis offers a means to analyze a number of current market trends – moving averages, highs, lows, support, resistance and trend lines – to inform trading decisions. Moreover, this analytics approach is flexible as you can apply it to short-term trades and long-term investments. Technical analysis also provides a methodical, efficient system to enter, manage and exit your positions.
Although technical indicators and price charts may appear to be driven by mathematical computations, they reveal the sentiment of investors and the mood of the market. This pushes you to act proactively – such as building a position where future demand lies ahead of others, which places you in an advantageous position.
Will only technical analysis help you make winning trades?
Fundamental analysis is a different approach to forex trading. As its name implies, fundamental analysis considers the impact of the economic, social and political landscape on currency prices. And if you were wondering if this type of analysis can be complex, you would be right, the exchange rate is affected by several factors.
If a country’s economy is going strong or its future economic outlook is bright, then those are encouraging factors for its currency and may potentially increase demand for that currency. But there is a lot more information to consider, and in general, economic data is not well-suited to short-term forex trading and tends to work better for investors with a long-term horizon.
It is also important to note that analysts and economists may draw differing conclusions from economic data and reports. In other words, subjectivity is an inherent issue with fundamental trading.
Traders may use a combination of fundamental analysis and technical analysis to inform their buy/sell decisions. This hybrid approach can provide a better understanding of the market. That said, you must consider the drawbacks and risks that technical analysis and fundamental analysis both pose.
For example, analysis paralysis is possible when you’re using either or both approaches. The vast amounts of economic data and a host of technical indicators can be overwhelming and confusing. Gathering information from charts or economic reports can also be tainted by personal biases, interfering with accurate and objective analysis. Watching out for these issues, keeping analysis simple and uncluttered, and learning from past mistakes is helpful.
To learn more about the differences between technical and fundamental analysis see our fundamental vs technical analysis comparison article.
Manual versus automated technical analysis
Technical analysis can be manual or automated. In a manual system, you analyze technical indicators to open a position or close a trade. An automated system does this for you once you train it to look for signals. This brings us to an important question: how does Meta Trader 4, the world’s most popular forex trading platform, help you perform technical analysis?
Technical analysis using MT4
One of the attractions of MT4 is the range of built-in technical indicators, up to 30, including moving averages and Bollinger Bands. You can apply the indicators to your chart by selecting one by type and choosing your parameters. You can also set colors for different elements, sizes of signs, thickness of lines and so on. The ‘Visualization’ tab can also be used to change the particular object’s visualization mode.
Finding viable trades using a market scanner
A market scanner scans the market to find trades based on the parameters you have chosen. It comes with default parameters that you can customize to the extent that the product allows. MT4Professional is an example: it is a plugin that integrates with the MT4 platform to scan hundreds of symbols and timeframes based on custom rules (MT4 and MT5 don’t have it natively implemented).
Market scanners display current information in currency pairs, such as exchange rate, daily high and low, daily change, and a buy or sell recommendation. When choosing a forex scanner, check if it can monitor the market for multiple currency pairs at the same time.
Also, make sure it offers a wide range of technical indicators and enables the customization of those indicators. The scanner should also send trade alert notifications, basically doing technical analysis on your behalf and informing you to take action.
A market scanner is a popular tool to capitalize on the best trades at any given time. By providing a comprehensive view of the market at a single glance, a scanner saves you time and energy in making optimal trading decisions. The results are indicated by different colors in a table, allowing you to grasp the current market situation quickly.
There are many reasons why you may want to use a forex scanner. For one, it is programmed to find indicators and set up trade alerts. Developing custom indicators or automatic trading strategies and executions requires considerable programming skills and financial knowledge.
Even if you’re proficient on both fronts, the development task is time-consuming and effort-intensive. By attempting to do everything on your own, you may end up missing out on opportunities. You, of course, have the option to ‘outsource’ the task to a developer but you will need to pay for the service.
A market scanner allows you to try new strategies and experiment safely in the most efficient way possible. You can do it manually as well, but think about the time it takes to study price charts and put together all aspects of the current market reality in making the right calls on selling or buying.
Learn more about the MT4 Market Scanner
How can you use the MT4 Market Scanner to automatically scan the most used indicators? Would you like to try some simple use cases to understand this plugin better and leverage it to multiply winning trades? Get started here.