Technical Analysis 101: Why Chart Patterns Matter

Whether you trade currencies, commodities, or even just ordinary stocks, understanding technical analysis is crucial to your success.  Unfortunately, many traders continue to fall into the same trap of ignoring the basics like resistance, channels and false breakouts.

Look at silver for example.

In April 2017, the price of silver began to break above double-top resistance points.  The idea was that it could challenge a July 2016 high of nearly $21 – a price seen after silver broke out of its bearish trend channel at the time.

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Speculators and traders began to boost their bullish net positions in silver futures, predicting the metal could run higher in April 2017 as well. Only problem was not many folks were paying attention to the technical setups, including the challenge at double top, or even that momentum had become aggressively overbought.

As silver challenged the top, relative strength (RSI) moved to its 70-line, indicating we had an overbought situation.  That was confirmed with Money Flow (MFI), which sat above its 80-line, as well as with Williams’ %R (W%R), which sat above its 20-line.

All three technical indicators confirmed silver was excessively overbought.  Yet speculators and traders bought in anyway.  They got even more excited when the price of silver broke to $18.61.  Believing there was a likely breakout, traders bought even more, even though chances were slim for further upside given overbought conditions.

Some got caught in a false breakout after getting far too greedy.  But this wasn’t the first time such traders got caught.  It happened in early 2016 and in October 2016.  But no one learns.  Most operate under the “this time it’s different” mentality.

Instead, to confirm a true breakout, traders would have been better of waiting for “extra” confirmation.  One way is to have waited for prior resistance to become support.  By failing to confirm at all, you actually increase your odds of failure.

Other ways to confirm a potential breakout are with time and volume.

If we see at least two closes above resistance in the case of silver, we can confirm that a breakout may be in place.  We can combine time with volume confirmation as well, present when we see sizable volume relative to historical volume. 

Failing to confirm is why many traders found themselves in a terrible situation.  Silver would not only fail at double top resistance in April 2017, it would drop lower, costing traders and speculators a great deal of money.

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and Skills and Get Paid To Trade! Learn How Here