When I talk about a chart or a market, I often talk about the “dominant technical factor”. This is a useful concept that anyone, regardless of your level of experience, can use to read a market better.
What is a dominating technical factor, how do you find it and what can go wrong?
Why focus helps
Markets produce an almost overwhelming amount of information. Many active markets tick multiple times per second and price movements are driven by the flow of orders in that market, derivatives, and related markets. New information (news) can come to the market at any time and lead to less than fully predictable results. People make trading decisions based on a complex web of factors, and emotions also play a role.
If we tried to look at all of this, we would quickly find ourselves in a situation of “analysis paralysis” – unable to do anything or even understand what we are seeing.
To focus means that we narrow our perspective to only look at what is importantwhile eliminating noise and complications. If we could properly choose what to focus on, we would always see what is important.
Bad focus leads to bad results
However, we must be careful –If we choose the wrong things to focus on, we could get into trouble. For example, what if we didn’t know that we should focus on a company’s changing competitive position in the industry when we were doing some fundamental analysis? Or are supply chain problems or debt structures most important to another company?
For technical reasons, many of the things we think matter do not move markets or affect price movements. (In other words, they have no advantage.) When we focus on these things, we only focus on noise.
So it is important not only to narrow our focus, but to limit that focus to things that are really important.
It is also worth noting that a large dose of humility is required in advance: we will not always be right! Sometimes things that we think are important are not important at all. Sometimes the important changes quickly and we may be looking in the wrong direction. Although we do our best, we will often be wrong and mislead.
The goal is not to be perfect – the goal is to be better.
Find the dominant technical factor
I find that restricting the focus to just a handful of things (or one thing in some cases) can provide a solid perspective on any chart or market. Against this background, what do we focus on? Here are some examples of things I might find useful at different times:
- Volatility conditions and whether there is any reason to expect a change in the market regime in the near future. (E.g. a stock that reports profits tomorrow …)
- Trend or reach? A look at a chart should provide this information.
- Are we near extremely significant levels? Examples could be all-time highs or a very visible level of support or resistance that has been tested multiple times.
- All technical samples that have a verifiable advantage. (One of my favorites is a nested flag or some other type of consolidation in a trend.)
None of this is almost as difficult as it sounds. The patterns in my first book (Pullback, Anti, Error Test and Breakouts) are a complete analytical toolkit. If you can read these samples, you can read any market. Add a little common sense to that and you are almost on the way to your goal.
For example, consider today’s US stock market (8/10/2020). I would identify the dominating technical factors in this market as:
- Summer volatility conditions (although we are seeing a seasonal inflection for higher volatility over the next few weeks)
- the presence of all-time highs in the S&P 500.
Focusing on just these two factors was enough to give you a game plan for any day or week depending on your trading style and time frame.
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If you look at a chart before engaging in any trades or patterns you might see, ask yourself, “What is most important here?” “What is the dominant technical factor?”
You won’t always be right – nobody is always right – but asking that question will solve many of the problems traders face!