Technical analysis utilizes historical trends, patterns, and testing to gauge how the market or certain security will perform going forward, and traders must perform it to be successful.
In 1935, William Delbert Gann discovered that geometric angles can help predict price movement.
Gann’s main principle is that a bull market is indicated when it takes one unit of time for price to increase by one unit, and a bear market occurs when there’s a decrease at the same rate. This is known as a 1:1 line, and is seen on a chart by the market climbing or falling at a 45° angle.
Other angles are also often drawn above/below the 45° line. Gann secondary angles are mapped after the following ratios: 1:8, 1:4, 1:3, 1:2, 1:1, 2:1, 3:1, 4:1, 8:1. After drawing all these angles, you will see what is known as the Gann fan.
Lines are typically drawn slanting up or down from a significant maximum or minimum price, respectively. Traders scale the chart for the time period they plan on trading.
In a bull market, the line the price is directly on or above serves as the support/floor of the current trend. In a bear market, the line the trend is below is the resistance or ceiling. These help traders identify the current strength of the market and predict future price movement. When a line is broken, it is typically because the current trend has ended, and the market will then move on to the next angle.
This is just some of the basics of Gann Theory. Learning the theory is no easy task as there are several other complex principals and elements it uses to predict price movement that would take many hours to go over. It can take traders years to master and implement correctly as there are lengthy books and guides dedicated to the strategy. But, once understood, it can be an extremely useful form of technical analysis.
Elliott Wave Theory
In the 1920s, R.N. Elliott found a repetitive pattern in the market that is caused by the psychological nature of humans. He identified that price will always be over/undervalued at the end of an up/downtrend, and that a correction period in the opposite direction ensues.
The trend period is made up of what is known as impulse waves, which are then adjusted by corrective waves. This pattern occurs in a 5-3 structure, as 5 impulse waves are followed by 3 corrective waves.
Also, each wave can be broken down into a smaller 5-3 set and each wave set can act as a single wave within a larger time frame.
Being able to identify a wave and the true start of a trend is the toughest part of this method as it can be very subjective. There are some basic rules in place to help pinpoint what constitutes a wave and trend, but there are also exceptions. Novices typically encounter great difficulty in counting waves and applying the strategy correctly.
T Theory revolves around the idea that the length of opposing trends in the market are symmetrical.
The strategy predicts that when the market has hit a significant bottom, it will rally for the same amount of time it had declined for. In addition, it suggests the market will fall after hitting a noticeable high for the same duration of the previous uptrend.
The T Theory can help you identify when to buy, when to sell, and even when to short the market if the price point keeps rallying or falling beyond the projected time period.
The challenge is being able to accurately identify the beginning and end of a trend. Also, the exact timing of one trend does not always emulate that of its its predecessor.
Gann Theory, Elliott Wave Theory, and T Theory are widely renowned technical analysis strategies that will help strengthen any trader’s ability to succeed if practiced correctly. However, each theory contains certain complexities that make them difficult to accurately implement.