Implications of technical analysis in Forex trading

ForexTechnical analysis is a highly debated subject meeting different levels of appreciation, skepticism and criticism from all types of financial markets. This applies to forex trading market as well. The statistical or technical analysis takes into consideration historical price changes and patterns in order to forecast the future price trends and changes. In forex, there are traders who fervently depend on the directions of technical analysis, those who believe it to be a worthless analysis tool and those who use the results as only one component of a series of factors contributing to the decision making process.

It is important to bear in mind that the present technical analysis methods are far more accurate compared to the past with the evolvement of genetic algorithms, neural networks and other futuristic technologies.

Does technical analysis work for the forex market?

According to past research a substantial portion of forex profits has been derived based on statistical analysis of past data to the extent of superiorly challenging the prevalent skepticism for this tool. A report published by Blake LeBaron states that market predictability is substantially eliminated through discounting days when the Federal Reserve is practically intervening in the market. In the Forex markets, therefore, the underlying success in technical analysis is in its ability to cater to different priorities of the major traders. In contrast to the unpredictable nature of equity markets, every country’s central bank has a dominant interest in keeping current prices stable at certain levels. This scenario helps in making price movements comparatively more predictable, particularly at times of Federal intervention.

The neural network model in forex trading

The neural network model can effectively spot obscure patterns and trends in the data. It can approximate all types of nonlinear functions to the extent of an arbitrary level of accuracy. Therefore, the model is highly suitable in forecasting a range of settings in the forex market. With the addition of new software the neural network models have become highly accessible to both retail and institutional investors in the forex market.

What is the component of a successful forex technical analysis system?

When developing a specialized forex trading technical analysis tool there are several things to take into consideration. Some of the key points are:

  • According to many past studies the Swiss Franc and the Japanese Yen are two particular currencies that can be very easily predicted. The main reason for this is that both currencies have the highest tendency of changing on intervention. Therefore, for international investors both these currencies are considered to be safe haven currency investments.
  • Using the neural network system in forex trading. Since it can identify even the most obscure data pattern the network is the most suitable in forex markets. Most ongoing technical analysis based research focuses on the neural network system.
  • Using logarithmic returns and moving averages as the best inputs for forex trading models.

Despite gaining popularity of technical analysis in forex trading, the system is still disputed by many researchers and industry watchers. Some of the concerns raised by them are that it could involve data dredging. Certain analysis may have employed data mining tools to spot misleading relationships within the data. Also some analytical studies may have used the curve fitting technique. This tends to produce reliable information for one data set while not being very successful in predicting patterns in a sample of the wider population.

Summary                                 

Though technical analysis as a financial tool has met with heavy criticism in many financial industries it has so far proven its worth in the forex trading market. There is growing evidence for its effectiveness. However, the success of technical analysis is largely based on certain factors like interventions from central banks, trading only in safe haven currencies etc. Some researchers still argue the viability of using technical analysis in forex as it can lead to different types of misleading analysis among different samples.

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