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15 Technical Analysis Secrets for Boosting Your Trading Skills

Part of the Technical Analysis For Dummies Cheat Sheet

Technical analysis can give you an edge in beating the stock market. How, exactly, do you do that? Here are 15 technical analysis secrets to becoming a skilled technical analysis trader:

  • Use at least two indicators. One technical indicator is better than none; just using the 200-day moving average on the Dow or S&P 500 would have saved your bacon in all the recent bear market downturns. Then apply a second indicator to get the confirmation effect that improves your odds of being right.

    You'll never be 100 percent right 100 percent of the time, so confirmation is a must. But don't demand so much confirmation from so many indicators that you hardly ever get a signal — analysis paralysis. Use indicators that work well together without duplicating the ruling concept.

  • Figure out what the indicator is saying about crowd sentiment. Indicators measure trendedness, the strength of a trend, when a trend is running out of steam, and other aspects of the price move. No indicator measures everything, so understand which aspect of crowd sentiment your technical indicators is focused on.

    Take an empirical approach. See what you're looking at on the chart. Don't let wishful thinking skew your vision. Accept the evidence of your eyes. When you misinterpret a chart, go back and find what you missed.

  • Use multiple time frames for confirmation. When you have the same buy/sell signal in the six-hour, daily and one-week timeframe, you have confidence that the indicator is telling you the truth. You won't get multiple timeframe confirmation all the time but look for it anyway. When in doubt, expand your timeframe to the weekly chart from the daily chart—seeing the big picture may help.

  • Trade with the trend. If the security is trending upward, buy it. When it stops trending upward, sell it. If you don't know what's going on, don't trade. Don't fall into the "value trap" — that a high-quality security will come back after a fall. It may, but you may have to live a long time to see it happen. While you're waiting, you're missing opportunities to build capital.

  • Dismiss people who say "market timing doesn't work." They are people who couldn't get it to work for themselves. Millions of people use technical analysis in one form or another today. Every U.S. broker offers technical charting capability. They wouldn't do that if traders didn't demand it.

  • Don't bring a knife to a gunfight. It takes real skill and superior analytical capabilities to excel at trading, as in any other endeavor. You can beat the index averages. And you can make extraordinary profits in securities markets. But you have to strive for excellence in your analysis and in managing the trade. You're up against serious professionals who want to take your money. You need to be just as smart as they are, if not smarter.

  • Don't trade for amusement or to make a point. The purpose of trading is to make money—period. If you're trading for entertainment or to prove some philosophical or political point, you'll almost certainly lose your shirt. For amusement, go to the movies. To make a political point, write a letter to the editor.

  • Use fundamentals to select securities, not to trade them. Nobody says you have to trade junky securities. High-class "value" securities can be just as trended as junk. You're free to trade only the securities you like on a fundamental basis, but you use fundamentals to select securities, not to set a trading regime.

  • Manage your trades with military discipline. Indicators are sometimes wrong and you'll take losses. Compensate for the shortcomings of indicators by imposing strict risk-management controls. Don't lie to yourself about your track record. Examining losses may uncover a surprisingly simple way to avoid losses in the future. Examining gains may disclose some personal talent on which you can build.

  • Never override your trading plan. The trading plan has two components — the signals generated by your indicators and your stop-loss and take-profit rules. You can't control the indicators or the market while a trade is in progress but you need to control yourself. Establish your trading rules when you're unemotional for times when you're emotional to overcome bad decision making.

    Reduce trading after a big loss and a big gain alike. Pace your trading to the amount of money you have. Don't overtrade.

  • Don't trade at all if you can't accept losses. Acknowledge that you'll take losses, and that you must control them ruthlessly to preserve capital. The biggest cause of losses isn't bad indicators; it's failure to admit your indicators are sometimes wrong. You can design a reasonable technical trading regime and still fail to make money if you don't control losses. Never trade without a stop-loss order.

  • Plan every trade and never trade without a profit target. Trading is not a savings plan; it's a pathway to building capital. Establish your best-case profit as well as your worst-case loss. Trading and investing aren't gambling — they're a business, with probable outcomes that you can estimate. Take money off the table once in a while and put it somewhere safe. Capital allocated to trading is not "savings." It is always at some risk when it is actively placed in a market.

  • Beware expert advisors. You can't evaluate an advisor unless you can judge both the indicator system and the trading rule regime, and you can do that only if you have first tried to do some designing yourself. Everyone trades the same indicator on the same security a different way, and no one way is the right way.

    If you take guidance from gurus, figure out their strengths and weaknesses, and verify their work with your own. Don't take tips from anyone you have not pre-qualified. Don't give tips, either, unless you're quitting your day job to set up an advisory business.

  • Diversify. Trade several securities and types of securities to reduce the risk of getting wiped out by a market catastrophe.

  • Seek the "Eureka!" moment. Technical analysis contains thousands of ideas, with new combinations of indicators, new types of securities, and new trading technologies being invented all the time. A lot of it is intimidating and frightening, but persevere—you never know when you might come across something that resonates with you and turns out to be the key concept in a new and improved, and successful, trading regime.

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