Let us try and understand why developing a well-researched perspective is important for stock market success.
The perspective should include practical information about the stock like:
- Price at which stocks should be purchased and sold
- Risk involved
- Anticipated reward
- Expected holding period
Technical analysis, usually referred to as TA, is a well-known method for carrying out this. It helps us formulate an opinion on a particular stock or index and define the trade while considering the entrance, exit, and risk.
Like all research methods, technical analysis has unique characteristics, some of which might be pretty complex. However, technology makes it simple to comprehend.
What is Technical Analysis?
Let us consider the following analogy.
Let’s assume you’re on vacation in a distant nation where you are entirely unfamiliar with the language, culture, landscape, and cuisine. You engage in the typical tourist activities on day 1, and by evening you are hungry. You want to have a fantastic meal to cap off your day. When you enquire about a good restaurant, you are informed of a nearby wonderful food street. You decide to try it.
To your surprise, many sellers are providing a wide range of cuisines. Everything appears unique and fascinating. You are yet to decide what you should have for dinner. You can’t ask around because you don’t know the language. How will you decide what to eat, given all of this information?
To choose what to eat, you have two possibilities.
Option 1: You visit a vendor and ask about their food. You check the ingredients and cooking methods, and then taste the food to check whether you like it. You go through this procedure again with a few different vendors, and you’ll probably end up dining where you feel the most satisfied.
The advantage of this approach is that you can be certain of what you’re eating because you conducted independent research. On the other hand, your chosen methodology is not scalable. There may be 100 vendors, and you can only visit 4 or 5 of them due to time constraints. Consequently, there is a good chance you missed the best food on the street.
Option 2: You take a corner position and observe each vendor. You try to locate a seller who is drawing the most attention. When you come across one of these vendors, your first thought is, “The seller is drawing so many customers; thus, he must be serving the best meal!” On the basis of your assumption and the preferences of the crowd, you decide to eat dinner at that particular vendor. You may be consuming the best food available on that particular street.
One of the benefits of this method is scalability. You must identify the seller with the most customers and assume it is a good choice based on the crowd’s preferences.
However, on the other hand, the herd mentality or the crowd here doesn’t need to be always right.
In this example, option 1 is fundamental analysis and option 2 is technical analysis.
In a nutshell, fundamental analysis focuses on the research of a few companies thoroughly, and technical analysis is when one understands the opportunities in the market depending on the current trends.
