Technical Analysis 101 (Part 2): Volume, MACD, & RSI
Technical analysis tutorial for beginners! This introduction to technical analysis will show you how to apply TA charting methods to crypto. In part 2 of this series, I'll be covering the volume, MACD (moving average convergence divergence), & RSI (relative strength index) indicators.
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Disclaimer: This is not financial advice. I absolve myself of all responsibility (directly or indirectly) for any damage, loss caused, alleged to be caused by, or in connection with the use of or reliance on any content, goods or services mentioned in this article. As usual, DYOR.
The first indicator I’d like to discuss today--and one of the most important indicators you’ll use--is volume; which you’ll see at the bottom of your screen as vertical red & green bars; red representing a downwards movement in price & green representing an upwards movement in price. Traders use the volume indicator to determine the strength of a particular coin’s price move. Large spikes in volume tell us there’s enough market strength to keep driving price in that particular direction, while low volume may be indicative of a trend reversal due to a thin order book. Of course, the volume indicator alone isn’t enough to determine accurate entry or exit points. But combined with other indicators, it can increase your likelihood of making the right decisions at the right times; meaning more profits in the long run. Let’s take a look at some charts.
Looking at Bitcoin’s 1-day chart, we can see a massive green spike in volume on February 6th, 2018. This green spike tells us that we can likely expect an upwards trend in price in the near future, which we saw was confirmed over the course of the following two weeks.
But let’s take a look at an instance where there’s was a large green candle but with low volume. One such instance was on December 16th, 2017 when Bitcoin opened at $17,477 and closed at $19,187. Despite a close to 10% increase in price, there wasn’t enough buying volume to continue driving the price’s upward movement. As I said earlier this may have been due to a thin order book, meaning there weren’t a lot of people willing to sell their Bitcoin to meet buyers’ demands. Thus, we saw a trend reversal over the course of the next few days with a massive price drop of over 40% from its peak in less than a week.
MACD (Moving Average Convergence Divergence)
The next indicator I’ll be covering is the MACD, which stands for moving average convergence divergence. Again, I won’t be going over the finer details like how MACD is calculated, so if you’re interested in that, visit investopedia.com. Instead I’ll be teaching you how to interpret this popular indicator.
The MACD is comprised of three different components. The first is the MACD itself, which is usually represented by the blue line. The second component is the signal line, represented in red. Lastly, we have the histogram, which plots the gap difference between the MACD & the signal line; think of it as a sort of indicator of an indicator. When the MACD crosses above the signal line, the histogram appears turnt upwards; and if the MACD crosses below the signal line, it turns downwards. Knowing this, an upwards-facing histogram (or when the MACD crosses above the signal line) is generally a bullish signal & may be a good time to buy. On the flipside, when MACD crosses below the signal line (and the histogram is facing downwards), we have a bearish signal & it may be time to sell to avoid further losses. We can also use the histogram itself to determine good entry & exit points based on the gap difference, which I’ll explain in further detail using a chart.
Looking at Ether’s 1-day chart, we see the MACD crossing above the signal line (and the histogram turning upwards) on January 2nd, 2018; thus providing us with a bullish indicator, which we can see with price’s upward movement over the course of the following 11 days. The MACD then crossed below the signal line (and the histogram flipped downwards) on January 16th, 2018; thus providing us with a bearish indicator, which we can see in the overall downtrend over the course of the next several weeks. Now as I mentioned earlier, let’s use the histogram to determine a good time to buy & sell. Since we wanna buy when price is low, we’ll wanna enter after a bearish signal and when the histogram is beginning to shrink. A shrinking histogram warns us of a possible trend reversal. So by entering during this time period here, we’ll be setting ourselves up to purchase Ether right when price is going back up. We can do the opposite when selling as well. By selling after a bullish indicator & when the histogram is shrinking on the upside, we can feel confident knowing that we’re exiting our position during a time when price is likely to keep moving down further; thereby locking in some profits & possibly giving ourselves another opportunity to enter when Ether is cheaper.
RSI (Relative Strength Index)
The last indicator I’d like to go over today is called RSI or relative strength index. RSI compares the magnitude of recent gains & losses over a specific time period, and is used to determine whether or not a coin is overbought or oversold. According to investopdia.com, the relative strength index gives us a “relative evaluation of the strength of a security's recent price performance.” Simply put: a coin that’s overbought means that its price is overvalued relative to its recent price, and that you may see a corrective pullback in price. Oversold means it’s undervalued in price, and that a correction to the upside may be due. As a general rule of thumb, sell when a coin is overbought & buy when it’s oversold. RSI is plotted as an oscillator, whose values range from 0 to 100. Generally, when RSI reads below 30, the coin is considered oversold, and when it’s above 70, it’s overbought. Keep in mind that both RSI and MACD can be subject to fakeouts, meaning false buy or sell signals may occur. That’s why it’s extremely important to use these indicators in conjunction with other indicators in order to give yourself a better read on the situation. Now let’s get back to the charts.
Looking at Bitcoin’s 1-day chart back in mid-December 2017, we see that RSI was well above 70 while Bitcoin was at its peak. This tells us that Bitcoin was overbought (or overvalued) at these prices, and that a correction was likely due. This can be interpreted as a good time to sell. On the flipside, RSI read below 30 on February 5th, 2018; indicating that at these prices, Bitcoin was oversold (or overvalued), and that it was a good time to buy.
Now let’s combine all that we’ve learned today. First of all, volume showed a huge green spike during this time, meaning there’s likely enough market strength to keep driving the price upwards. Secondly, the histogram on the MACD is shrinking, signaling a possible reversal of the downtrend AND a good entry point; that coupled with the MACD line crossing the signal line a few days later acts as a bullish indicator and also acts as added confirmation. Lastly, the RSI read below 30 as we just saw, indicating that Bitcoin was oversold. Putting all these together, we have three strong indicators telling us that early February 2018 was definitely a good time to buy. Now keep in mind that you can use the opposite of these conditions as confirmation of a good time to sell too.
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