What technical analysis can and can't do
Technical analysis helps you understand context and plan entries and exits, but it doesn't predict the future. How to use it with your feet on the ground.
After learning candles, levels and indicators, it's easy to feel the chart "tells" you what will happen. It's worth putting things in perspective: technical analysis is a useful tool for some things and a very poor one for others.
What it can do
- Give you context: whether a stock is trending, ranging, near its high or in a sharp drop.
- Help you plan: where to place a limit order, where to accept you were wrong.
- Measure a trade's risk: the distance between your entry and your stop tells you how much you're risking.
- Show market behavior: fear and euphoria leave a mark on price and volume.
What it can't do
- Predict news: a report, a lawsuit or a crisis changes everything overnight.
- Tell you what a company is worth: that's what fundamental analysis is for.
- Work every time: patterns fail often, and what worked in the past stops working when everyone uses it.
- Eliminate risk: a stop can execute at a worse price if the price gaps at the open.
Risk management matters most
People who trade professionally with technical analysis often say that being right isn't the most important thing: how much you win when you're right and how much you lose when you're wrong is. A common rule is not to risk more than a small percentage of capital on a single trade.
Position size = amount you accept to lose ÷ distance between entry and stop
Technical and fundamental together
They don't have to be at odds. Many people use fundamentals to decide what to buy (solid companies at a reasonable price) and technicals to decide when and how (not buying into a free fall, placing orders in sensible zones, knowing where the risk is).
| Question | Best tool |
|---|---|
| Is it a good business? | Fundamental analysis |
| Is it expensive or cheap? | Fundamental analysis (multiples) |
| What trend is it in? | Technical analysis |
| Where do I place my order and stop? | Technical analysis |
| How much do I risk? | Risk management (both) |
Trading or investing
Trading seeks gains from moves over days or hours; long-term investing seeks growth with the business over years. Frequent trading demands time, discipline and low costs, and studies in several countries show most people who try it lose money. If you're interested, practicing first in a practice account (with play money) is a way to learn without risk.
Test what you learned
1. What can technical analysis NOT do?
- Give trend context
- Predict news that changes everything
- Help place a stop
Show the answer
Predict news that changes everything. Unexpected news doesn't show up on the chart before it happens.
2. With $100,000, risking 1% and a stop $5 from your entry, how many shares would you buy?
- 20
- 200
- 2,000
Show the answer
200. $1,000 ÷ $5 = 200 shares.
3. What is fundamental analysis typically used for alongside technicals?
- Deciding what to buy
- Choosing the chart's color
- Paying less tax
Show the answer
Deciding what to buy. Fundamentals say what; technicals help with when and how.
Track your progress in ARCO
With a free account you save the lessons you finish, your streak and your achievements, and answer the question of the day.
Everything in this section is educational: it explains how investing works, it doesn't tell you what to buy.