Limited Time Offer: Save 10% on all 2021 and 2022 Premium Study Packages with promo code: BLOG10    Select your Premium Package »

Technical Analysis (TA)

Technical Analysis (TA)

Technical analysis is the practice of using price and volume data to value stocks. It upholds the idea that supply and demand, that jointly constitute market forces, ultimately determine the stock price. Technical analysis is a concept widely used to value securities in free markets around the globe.

Breaking Down Technical Analysis

A free market is one where willing buyers and willing sellers can freely interact without being subjected to government imposed impediments or some other form of constraint. Proponents of technical analysis argue that supply and demand determine stocks prices in real time.

The following are the main assumptions inherent in technical analysis:

  • market forces (supply and demand) determine the market value of assets;
  • rational factors as well as irrational ones i.e data and guesswork respectively, collectively drive supply and demand;
  • individual stock prices change to reflect periodic trends exhibited by the market as a whole;
  • patterns and trends are repetitive. Therefore, we can actually predict future price movements; and
  • emotions play a major role in determining human behavior, which can be quite erratic.

Technical analysis deviates from the efficient market hypothesis which claims that humans always exercise rationality in decision making, and by extension, buying and selling of financial assets. In fact, technicians heavily link TA to the study of investor psychology and human behavior in different circumstances. Technicians believe that there is convincing evidence, gathered over the years, that shows that the response of investors follows the same pattern when subjected to similar circumstances.

The Line Between Technical and Fundamental Analysis

While technical analysis values assets based on trading volume and pricing data, fundamental analysis is more conservative. Fundamental analysis values assets based on the information recorded in financial statements. To value a security, fundamental analysis looks into metrics such as the price-to-book value and company earnings before tax.

Applications of Technical Analysis

  • Pricing of assets without future cash flows (dividends or other forms of income)
  • Analysts can use the method to estimate fair values of assets in situations where financial statements are fraudulent, effectively ruling out the reliability of fundamental analysis.

The analysis of trading volumes and price fluctuations is done on graphs and displayed in form of charts. For this reason, technical analysis is widely considered easier to understand and conduct compared to fundamental analysis.

However, using past data and trends to predict the future of the market as a whole may not always be valid. We cannot rely on the past as an accurate projection of future results.

Reading 56 LOS 56a:

Explain principles of technical analysis, its applications and its underlying assumptions.

Featured Study with Us
CFA® Exam and FRM® Exam Prep Platform offered by AnalystPrep

Study Platform

Learn with Us

    Subscribe to our newsletter and keep up with the latest and greatest tips for success
    Online Tutoring
    Our videos feature professional educators presenting in-depth explanations of all topics introduced in the curriculum.

    Video Lessons

    Sergio Torrico
    Sergio Torrico
    Excelente para el FRM 2 Escribo esta revisión en español para los hispanohablantes, soy de Bolivia, y utilicé AnalystPrep para dudas y consultas sobre mi preparación para el FRM nivel 2 (lo tomé una sola vez y aprobé muy bien), siempre tuve un soporte claro, directo y rápido, el material sale rápido cuando hay cambios en el temario de GARP, y los ejercicios y exámenes son muy útiles para practicar.
    So helpful. I have been using the videos to prepare for the CFA Level II exam. The videos signpost the reading contents, explain the concepts and provide additional context for specific concepts. The fun light-hearted analogies are also a welcome break to some very dry content. I usually watch the videos before going into more in-depth reading and they are a good way to avoid being overwhelmed by the sheer volume of content when you look at the readings.
    Kriti Dhawan
    Kriti Dhawan
    A great curriculum provider. James sir explains the concept so well that rather than memorising it, you tend to intuitively understand and absorb them. Thank you ! Grateful I saw this at the right time for my CFA prep.
    nikhil kumar
    nikhil kumar
    Very well explained and gives a great insight about topics in a very short time. Glad to have found Professor Forjan's lectures.
    Great support throughout the course by the team, did not feel neglected
    Benjamin anonymous
    Benjamin anonymous
    I loved using AnalystPrep for FRM. QBank is huge, videos are great. Would recommend to a friend
    Daniel Glyn
    Daniel Glyn
    I have finished my FRM1 thanks to AnalystPrep. And now using AnalystPrep for my FRM2 preparation. Professor Forjan is brilliant. He gives such good explanations and analogies. And more than anything makes learning fun. A big thank you to Analystprep and Professor Forjan. 5 stars all the way!
    michael walshe
    michael walshe
    Professor James' videos are excellent for understanding the underlying theories behind financial engineering / financial analysis. The AnalystPrep videos were better than any of the others that I searched through on YouTube for providing a clear explanation of some concepts, such as Portfolio theory, CAPM, and Arbitrage Pricing theory. Watching these cleared up many of the unclarities I had in my head. Highly recommended.