If you’re interested in cryptocurrency trading, then you might be wondering how to evaluate the market trends to make the most of your trades. Technical analysis is a popular approach among traders that helps to identify potential price movements and trends by studying charts and other technical indicators.
In this article, we’ll discuss technical analysis and its use in cryptocurrency trading. We will go through what technical analysis is, some key technical indicators you can use when you trade the markets, and we will give examples as to how you can use them when trading cryptocurrencies. If you are interested in opening a crypto account to start trading right away, you can do so with Saxo UAE.
What is technical analysis?
Technical analysis is the study of past market data to identify trends and make trading decisions. The idea behind technical analysis is that historical market data can help predict future market movements. Technical analysis uses charts, graphs, and technical indicators to identify trends and patterns that may indicate future price movements.
Types of technical indicators
There are several types of technical indicators that traders use to analyse the cryptocurrency market. Some of the most used ones include:
Traders use Moving Averages to smooth out price fluctuations and identify trends in the market. A moving average is the average price of a cryptocurrency over a specific period. The most common MAs include the Simple Moving Average (SMA) and the Exponential Moving Average (EMA).
Traders can calculate the SMA by adding the closing prices of an asset over a specific period and dividing by the number of periods, while the EMA gives more weight to recent prices in the calculation. Most often, traders use MAs in combination with other technical indicators to identify trading opportunities and generate buy or sell signals.
Relative Strength Index (RSI)
Relative Strength Index (RSI) is a technical indicator used to measure the strength of a security’s price action. It is a momentum oscillator that measures the magnitude of recent price changes to evaluate overbought or oversold conditions in the price of an asset.
A trader plots the RSI on a scale from 0 to 100, with 70 and 30 serving as overbought and oversold levels, respectively. When the RSI is above 70, it is considered overbought, and when it falls below 30, it is considered oversold. Like MAs, traders can use the RSI in combination with other technical indicators to generate trading signals and help identify trends in the market.
Bollinger Bands are a technical analysis tool created by John Bollinger that consists of a Moving Average (typically a 20-day Simple Moving Average) and two standard deviations of the Moving Average plotted above and below it. The bands widen and narrow based on the volatility of the price action.
The purpose of Bollinger Bands is to provide traders with a relative definition of high and low prices of an asset, and to indicate potential trend reversals. When the price is near the upper band, it may be overbought, and when it is near the lower band, it may be oversold.
Finally, the fourth technical indicator is the Fibonacci Retracement. It is a technical analysis tool used to identify potential levels of support and resistance in a financial market. It is based on the idea that markets often retrace a predictable portion of a move, after which they continue to move in the original direction.
Traders calculate retracement levels by identifying the high and low points of an asset’s price movement, and then dividing the vertical distance by the key Fibonacci ratios of 23.6%, 38.2%, 50%, 61.8%, and 100%. These ratios are based on the Fibonacci sequence of numbers, in which each number is the sum of the two preceding numbers (for example, 0, 1, 1, 2, 3, 5, 8, 13, 21, 34, 55, etc.).
Crypto traders use the Fibonacci retracement levels to help identify potential entry and exit points for trades. The 50% level is not actually based on a Fibonacci number but is included because it is an important psychological level. The other levels are believed to represent key areas of support and resistance based on the idea that other traders are also watching these levels and may act accordingly.
Technical analysis’s role in crypto trading
Technical analysis is a popular approach among cryptocurrency traders because it provides a clear view of market trends and patterns. By using technical indicators, traders can identify potential entry and exit points and develop trading strategies that maximise trading potential.
However, to make the most of this analysis method in cryptocurrency trading, you need to identify the key technical indicators that best suit your trading style and investment objectives. Once you’ve identified the indicators that work best for you, you can use them to make informed trading decisions.
How to make the most of technical analysis
To make the most of this analysis technique, you should combine it with other techniques and not use it in isolation. Other analysis methods you can use include fundamental and sentiment analysis, the latter of which is hugely important in the sentiment-driven crypto markets.
Fundamental analysis is the evaluation of the financial and economic factors that influence cryptocurrencies’ value, including the study of industry trends. Sentiment analysis, on the other hand, is the evaluation of the emotions and opinions of market participants, such as investors and traders, to determine their attitude towards a cryptocurrency.
Other factors to consider when trading crypto
Aside from technical analysis and how you would go about evaluating the market, there are other factors you should keep in mind before investing in crypto. They include:
Your risk appetite
Cryptocurrencies are highly volatile, and many have seen soaring and plunging prices within short timeframes over the years. Therefore, most crypto traders must be comfortable with a certain level of risk if they do decide to trade crypto. Beyond that, you can decide if you would like to take a riskier or more conservative approach to trading depending on your personal preferences and financial situation.
Before trading crypto, you should also understand the kind of providers you can create trading accounts with. One of the first things you should do when vetting a broker or platform is licensing. Within the UAE, the financial and trading licensing body is the Securities and Commodities Authority (SCA) is the federal regulatory body, and you should make sure your broker or trading platform follows other financial services authorities they are required to.
Your investment goals
Finally, before you start trading, you must have a solid idea of what you aim to achieve with your portfolio. Whether you want to make a profit quickly or over a long period, you should have a clear idea of what your expected and accepted risk/reward ratio, capital appreciation, and liquidity needs.
The bottom line
Technical analysis is a powerful tool that can help cryptocurrency traders identify trends and make informed trading decisions. By using technical indicators, traders can identify potential entry and exit points and develop trading strategies that maximise trade potential. However, it’s essential to remember that technical analysis should not be used in isolation. By combining technical analysis with fundamental analysis and staying up to date on market news, you can develop a comprehensive trading strategy that helps you achieve your investment goals.