Market Strategy: The Value of Technical Analysis

March 4, 2011 11:56 AM

One of the most difficult aspects of a bull market is to forecast just how high prices will go. In the end, it is all about supply and demand.

In theory, the job of our price discovery system is to make sure we don’t run out of supply. Prices will get high enough to sufficiently curb demand so there is a little left over when the next crop is harvested. The price at which demand is curbed is a moving target that is influenced by many fundamental factors that might seem overwhelming and complicated. That is when technical analysis becomes useful.

Technical analysis is simply a method of evaluating commodities by analyzing the actual statistics generated by market activity—such as past prices, volume and open interest—and then charting the data. By taking price points and putting them in a chart formation, you can begin to visualize patterns and trends instead of attempting to measure a commodity’s intrinsic value.

The focus of technical analysis is to determine trends and ride the momentum of the market to capture the bulk of the available profit. Using technical analysis, you probably won’t buy the bottom and sell the top.

What you will do is limit the risk of being wrong big and letting emotions get in the way of decision making.

A Case Study. The weekly soybean chart shows how the use of simple technical analysis reveals interesting bullet points on price direction. Once soybeans cleared the 2004 highs in December 2006, they represented about half the total move from the 2006 low to the ultimate top in June 2008. That last half of the total move took half as long as the initial move that surpassed the 2004 high.

soybean chart jan11

Once price breaks an uptrend, it often returns to the underside of the broken trendline in an effort to climb back above it. This happened in June and July 2008 at the final top and again in June 2009 to retest the 45° longer-term trendline.

A nearly symmetrical triangle formed in 2009 and lasted through 2010 with lower and lower highs and higher and higher lows until soybeans broke to the upside exactly at the apex of the triangle to begin the current rally.

The current rally has tried numerous times, unsuccessfully, to close solidly above the June 2009 highs.

Decision Point. If the breakout is successful, it suggests the 2010 move of about $3.60 is only half over, projecting to $16.60. The move would likely happen in three months, which gets us to the end of March and the USDA Prospective Plantings report and the start of the South American harvest. Should the attempt fail, breaking the current uptrend, prices will likely retrace and make another attempt to move higher in July based on U.S. weather.

Looking back, you can quickly sight fundamentals that justify the soybean price movements in the past four or five years. But even a simple analysis can greatly enhance your decisions—not so much regarding what to do, but what not to do. Technical analysis in its simplest form can help increase the odds of not making a big mistake.

Gulke Group will soon release a comprehensive workbook, "Technical Analysis: Fundamentally Easy," with enhanced analysis techniques and tips. For details, visit or call (815) 520-4227.

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