For those innocent minds unsullied by the mechanics of greed
, a technical indicator
is the tool of a technical analyst (haha, I like circular definitions). Technical analysts, on the simplest level, are people who believe that stock market predictions
about prices, volumes, etc. of traded stock, can be predicted on the basis of such things as previous price movements, ratios of different selling volumes, etc.
In contrast, fundamental analysts believe that the future stock price is a function of future value, and they seek to predict that value based on some "intrinsic" worth of the company underlying that stock, usually based on things like expected earnings, but we're not considering them here.
A famous example of technical analysis is the Dow theory, of Charles Dow (of Dow Jones fame). This theory states that for a "true" bull/bear trend, both the Dow Jones Industrial and the Dow Jones Transportation indeces have to be moving in the same direction.
Apparently, Japanese rice traders were known to have used technical analysis to aid them in their business.
Technical analyses violates the weak form of the Efficient Market Hypothesis, which states that it is impossible to predict a stock price based on past information.
It may be worth it to note that if examining data post 1960, NO CONCLUSIVE EVIDENCE EXISTS THAT ONE MAY TIME THE STOCK MARKET USING TECHNICAL INDICATORS, in excess of the risk free rate of interest, usually indicated by 30-day bills.
George Soros is often quoted as an example of a successful technical trader. In point of fact, George Soros usually holds the large majority of his holdings for a long time, which would allow him to reap the benefits of "normal" investors.
The efficient market hypothesis may be incorrect, but it provides a better view of the stock market than technical indicators.
Very little empirical evidence supports the hypothesis that past information can predict future prices!
If you do a search on Google.com for the opposing view, you will find that 50% of the links about the EMH are in *.edu domains. Technical analysis is widely discredited in universities, who have gone on to other things. The reason that technical analysis has so many proponents is because it is far easier to make money by fleecing the gullible than in the stock market.