If you seek to trade in cryptocurrencies, you must understand the crypto market trend to turn your coins into cash. You must also know how to do technical analysis and read advanced crypto charts which are supported by Dow theory to gain profits from investments. Read below to find out what is Dow theory and how to read basic crypto technical charts for successful crypto trading.
Significance of crypto charts for traders
Reading charts is essential for crypto traders as it is for stock market investors. It helps investors in finding the best market opportunities just like technical analysis help stock market traders identify marker trend to predict the future price movement of specific stocks. But what do you mean by making technical analysis?
Technical analysis can be defined as a statistical trend analysing what has been gathered over time. This helps traders in understanding the demand and supply of particular assets in the market to predict future price trends. While analysing the crypto market, investors use technical analysis to make well-informed decisions and know which asset will follow a bearish or bullish movement.
Bullish movement can be referred to as an upward price movement when the price of a particular asset is pushed by bulls. In contrast to it, bearish movement occurs when the price movement is downward or dropped by the bears. Technical analysis helps the traders to predict price movements according to chart patterns to find a bullish or bearish trading opportunity.
Who was Charles Dow?
Charles Dow was the person who first coined the term technical analysis for traders. He was the editor of the Wall Street Journal and also the co-founder of Dow Jones & Company. Dow was combinedly responsible for the first stock index creation that was named the Dow Jones Transportation Index (DJT). His ideas were written in various Wall Street Journals and when he passed away, they were compiled together in a series that is now known as Dow theory.
Technical analysis evolved over the years and with advanced technology and tools, traders can now read patterns and signals more appropriately than ever. However, the technical analysis further depends on the market price and other information regarding any given asset which traders employ according to the market psychology and trading history.
Technical analysts can use various analytical tools in trading strategies that determine whether the asset is worth complementing or approaching the trader’s decisions or analyse trading signals to determine when to buy or sell the asset to maximise profits. Likewise, fundamental analysis helps traders in studying financial information that affects an asset’s price or predicting potential growth. Fundamental analysis can include looking over industry performance, earnings or brand value.
Six tenets of Dow theory
In 1884, Charles Dow contributed to the creation of the first stock market index. Dow felt that through monitoring the stock market, it was possible to spot significant market movements and that it was a dependable approach to gauge market demands inside the economy. Several other experts, like William Hamilton and Richard Russell, have modified Dow’s idea. Some facets of Dow’s thesis, such as its concentration on the transportation industry, lost significance over time. The six tenets of Dow theory are the theory’s six basic principles which includes the following.
1. The market reflects everything
Dow theory’s first tenet is about the core principles behind the technical analysis, i.e., the market shall reflect the available data about the asset, and its price. For instance, when a company reports profits annually, the asset price may move upwards. The idea is similar to the Efficient Market Hypothesis (EMH), which asserts that asset prices on stock exchanges capture all available information and trade at their fair value.
2. There are three kinds of trends in the market
The second tenet of Dow theory suggests that the market experiences three basic forms of trends. While the primary trend refers to the major market movement that may tend to last years or months, they can either represent a bull marker that shows asset price is moving up or a bear market which means the price of the asset is going down over time.
The secondary market trend works against the primary market trend and can represent a pullback for investors in the bull market as the market price moves back or upward temporarily before continuing its downward trend. Tertiary trends, on the other side, can last up to weeks or a little more and are mostly considered noise in the market which is generally ignored by traders as it does not affect long-term movements.
3. Primary trends have three phases
By examining different trends, traders can find market opportunities such as a bullish primary trend where traders can take advantage of a bearish secondary trend to get assets at a low price before the price follow an upward movement. However, recognising these trends can be a bit difficult owing to the three phases in the primary trend according to Dow theory.
The first phase refers to the accumulation phase in a bull market or the distribution phase for a bear market. This precedes an opposite trend and takes place when the market sentiment is negative in a bull market or positive in a market bear market. During the primary passes, many traders comprehend that a new trend may start and they either distribute ahead of the downward movement or accumulate before the upward movement in the market.
The second phase is known as the public participation phase in which the wider marker recognises the new trend started by the primary phase. The traders either start buying to take advantage of upward price movement or start selling off to cut losses during the downward price movement. This means the second phase realises rapid increases or decreases in asset prices.
The last phase causes a panic phase during a bear market or an excess phase during a bull market. The wider public starts speculating about the trend’s end during both the excess or panic phase. Traders who are aware of this phase may start selling to anticipate a bearish movement or start buying to anticipate
a bullish primary phase. Although these trends may not work the same in every case, many traders consider them before making significant decisions.
4. Indices must correlate
Dow theory contends that a market trend is validated when both indicators show that a new trend has begun. When one index confirms a new primary upward trend, but another index remains in a primary negative trend, traders shouldn’t believe a new primary upward trend is beginning. At the time when the Dow theory was compiled, the Dow Jones Transportation Average and Dow Jones Industrial Average were the company’s primary indices. Thus, considering the close relationship between the transportation market and industrial activity at one given time, these two indices would naturally correlate.
5. Volume confirms trends
As a result of the fifth Dow theory tenet, trading volume increases when prices are moving in the direction of their primary trend, and decreases when they are moving in the opposite direction. It is a measure of how many assets have been traded over a specific period and is seen as a secondary indicator. Low volume indicates a weak trend, while high volume indicates a strong trend. An extremely weak secondary trend is seen when a bullish primary trend coincides with a bearish secondary trend. The trading volume during the secondary trend indicates that more market participants are selling.
6. It is valid to follow trends until a reversal is evident
Dow theory’s sixth tenet suggests treating reversals in primary trends with caution, as reversals in secondary trends can be confused with reversals in primary trends.