You will learn about the following concepts
- Why is analysis key to success
- Fundamental analysis
- Technical analysis
- Types of technical analysis
- Chart patterns
- Reversal bar patterns
As we have already pointed out numerous times throughout our guide, analysis is crucial for success no matter what you are trading. Although many people liken binary options to gaming, it is exactly analysis, both technical and fundamental, that skews the odds in your favor to above 50% (given we assume that the price has a 50% to go up or down from the spot price). Without a proper assessment of the market conditions, however, binary options trading is nothing more than simple betting which leaves you exposed to the factor of luck, and we know that luck is only temporary.
The current article will explain the basics of technical and fundamental analysis but will not dive into specifics as we have already thoroughly explained most fundamental and technical factors which tend to influence an assets pricing. Because binary options are basically bets on an assets price movement, analysis means used for the Forex, stock and commodities market apply to trading binary options. Because of that, we will provide direct links to the articles we recommend you to read.
Fundamental analysis refers to a methodology of predicting an assets price fluctuations and future trends based on external factors such as economic data, central bank decisions and comments, political and geopolitical events, force majeure occurrences and so on. All of this information is crucial for binary trading, because it affects market sentiment, and market sentiment is what moves the markets.
For many traders, and especially in academic studies, fundamental analysis is considered as the primary assessment and prediction methodology for an assets price movement. And although technical analysis has been increasingly gaining in popularity, especially with the development of modern day technology, the impact of fundamental factors forces many technicians, who usually dont take into account news, economic indicators etc., to avoid trading during the time of their releases.
Fundamental analysis basically includes every factor from the real world that can affect the pricing of a certain asset. For example, the EUR/USD pair is influenced by economic data coming out from the Eurozone and the United States, central bank decisions, central bankers comments and so on. Commodities, such as oil and copper, for example, tend to fluctuate widely when economic data shows a change in demand prospects, especially in major consumers, or by any outages in supply. When it comes to stocks, they are influenced not only by the overall economic outlook, but also by company-specific information, such as corporate news, earnings reports and performance forecasts.
One of the main sources of fundamental information used on a daily basis is the economic calendar. Depending on the calendars thoroughness, it can include all of the low, medium and high-volatility indicators from a certain economy. Thus, economic calendars provide you with a comprehensive and auto-updated overview of a certain economys performance.
Logically, high-volatility indicators are the most closely watched, especially the ones released by the worlds top economies. Among these data are unemployment numbers, GDP growth rate, inflation, retail sales, consumer sentiment, industrial production, manufacturing and services Purchasing Managers Index and so on. Read through our Forex Trading Academys “Fundamental Analysis” section to gain a more in-depth understanding on the indicators and force majeure events of utmost significance.
Technical analysis is the second main line of study used to evaluate securities and their expected fluctuations. Technical analysis is based on three pillars: every event and piece of information is already factored in the assets price; once a trend has been established, it will likely continue; everything is bound to repeat and traders react in a similar way of repeating market occurrences. Technical analysis is based entirely on historic market data.
This is why technicians (traders practicing technical analysis) spend most of their time looking for the formation of distinct price patterns on the chart, which they expect will be followed by a well-known price movement.
Technicians typically disregard fundamental factors, even the most significant ones. At first, you might think that this seems illogical and wrong, but there is a good reason for it – you are completely unaffected by the bombardment of news and comments by “experts”.
However, as we said above, fundamental analysiss capability to move the markets is too overwhelming to be ignored. This is why many technicians, especially day traders, often close their positions and abstain from entering the markets before, during and shortly after major economic data is released as it can completely override their expectations from the technical point of view and gun their stop-loss orders. Learn more on the matter by reading through our Forex Academys “Technical Analysis” section. Additionally, if you want to learn more about day trading, check out our “Day Trading“ guide.
Types of technical analysis
Generally speaking, there are two main trading styles technicians adopt – trading based on strategies incorporating the great variety of technical indicators (such as Relative Strength Index, Moving Average Convergence Divergence, Stochastic Oscillator etc), and price action trading.
Master of crowds
Whereas the first style is based on combining these sets of tools to monitor past data and attempt to predict future movements, price action followers argue that technical indicators cannot yield constant profit and are, thus, generally deemed useless. Instead, price action traders only use the assets historical price data and volume, and master their ability to understand and predict changes in the general publics behavior in order to stay one step ahead.
If you want to learn a lot more about price action trading (and you should), we suggest you read our “Price Action Trading Academy“. For those of you who are more interested in technical indicators and their use and interpretation, you can check the thorough list we have compiled in our “Technical Forex Trading Indicators” guide. Actually, it would be best to read both.
Chart patterns, bar reversal patterns
Regardless of the trading type you wish to choose, chart patterns are the core of technical analysis. While reading up on both price action trading and trading via technical indicators, you will constantly encounter the terms “channel”, “triangle”, “wedge”, “flag”, “pennant” and so on. These formations, which we have covered in our “Forex Trading Academy” and “Price Action Trading Academy” guides, are plotted by the markets movement as it displays certain behavior.
However, the market sooner or later shifts its behavior. It is inevitable. And because technical traders believe that the market almost always acts in a manner similar to past experience, they wait for such a pattern to occur on their charts in order to gain an idea what might happen next and enter an appropriate position. For example, patterns most often end with a breakout in one of the two possible directions, and so traders guess which one it will be. Also, some patterns are typical reversal scenarios, while others generally tend to resume the markets previous direction of movement (such as flags and pennants).
Apart from the larger chart patterns, which may take up to 40-50 bars (candlesticks) before being completed, there are also small reversal bar patterns. They consist of one, two or three bars and illustrate a price reversal, as you can judge by their name. Traders observe these patterns in order to determine whether the reversal will have a follow-through or will fake out. To learn more about reversal bar patterns, check out our articles “Bars Signaling Reversal – Basic Features“, “Further Talk on Reversal Bars“, “Reversal Bars – Examples“, “Two-Bar Reversals“, “Three-Bar Reversals“, “Outside Bars“ and “Other Types of Signal Bars and Patterns“.
A combination of both
Despite the fundamental differences between the two major analysis methods, there are many traders who adopt a mixed trading style. Generally, these market players base their decision making on fundamental analysis, but determine the best possible entry and exits points according to their technical analysis. They also take into account major technical support and resistance levels, including previous highs and lows, as well as moving averages (and moving average crossovers) and others, to predict where the price is likely to halt momentum and rebound, or possibly accelerate further, if it penetrates through the respective price level.