Understanding Technical Analysis in the DeFi World (And Why it Matters)
With a value of $38 billion locked in DeFi (decentralized finance) and the global blockchain market expected to reach over $65 billion by 2026, it’s no surprise to see technical analysis (TA) being deployed in this market space.
Providing reliable technical analysis is the wish of every trader or investor, but complicated factors and an uncertain market landscape can leave risk-takers in the DeFi game feeling compromised.
In this article, we explore the crucial role technical analysis can play in helping you navigate the volatile DeFi market and provide the information you need to make wiser investment decisions.
What is Technical Analysis?
Technical analysis (TA) is a term applied across the entire financial spectrum as a predictive method for market analysis behavior. Also known as ‘charting’, TA focuses on previous price action and volume data displayed in graphs and charts.
From this financial data, users can begin to understand the current value of certain assets through historical data, so they may attempt to identify trends for trading opportunities. Analyzing and forecasting market behavior through technical analysis can be divided into three main categories:
- Past market data
- Primarily price
Unlike fundamental analysis (FA), TA is strictly a numbers game and focuses purely on historical accounts of price action in the form of fluctuations and volume data.
Technical analysis can be attributed as far back as 17th century Amsterdam with Joseph de la Vega. However, it wasn’t technically established until the 19th century by journalist and founder of The Wall Street Journal, Charles Dow.
In recent years, technical analysis has grown even more sophisticated due to obvious technological advances. But despite its long history, technical analysis still plays a crucial role in financial matters, especially with the emergence of cryptocurrencies and decentralized finance.
How Does Technical Analysis Work?
Technical analysis works by analyzing an asset’s previous and current prices to provide an overview of price value. In the DeFi world, this will work through studying specific values for certain cryptocurrencies such as Bitcoin, Ethereum, Litecoin, etc.
In contrast to decentralized cryptocurrencies, DeFi offers various services, such as allowing traders to lend, borrow, and trade. In this way, DeFi operates like a crypto bank built on blockchains such as Solana. This approach enables traders to gain interest, take loans, and market NFTs as collateral.
With DeFi and the remaining crypto market sharing the same principle of providing users with applications that operate without a central system gaining complete control, the market requires accurate technical analysis solutions to feed market insights and forecast potential investments.
Essentially, technical analysis concentrates on supply and demand by valuing the asset in correlation to selling and buying forces within the global market. Applying technical analysis within DeFi, traders will utilize various technical analysis tools to analyze the market for potential opportunities.
These tools are technical analysis indicators, with traders applying a variation to gain a more rounded overview to inform their investments with greater scope and consideration of the DeFi market.
However, technical analysis is more reliable within normal market conditions that are less vulnerable to manipulation from external influences. Due to the DeFi market being relatively new, finding consistency with TA can prove more challenging.
Types of Technical Analysis Indicators
Traders use a range of indicators for analyzing market trends and attempting to forecast future market behavior. Technical analysis indicators can supply trading signals that prompt an investor into action, such as operating in an undersold crypto market or avoiding an oversold industry.
However, trading signals are not always accurate, especially in the DeFi market, due to the relative size, external influence, and unknown consequences. In this way, DeFi represents a greater risk for investors but a much greater reward.
Here is a list of traditional TA indicators that also apply to DeFi:
- SMA (Simple Moving Averages) – SMA results are determined via asset closing prices within a certain time.
- EMA (Exponential Moving Average) – EMA concentrates on recent closing prices compared to older prices.
- RSI (Relative Strength Index) – Oscillators provide mathematical formulas for pricing data from predefined ranges.
- Stochastic RSI – Stochastic RSI applies a mathematical formula to the regular RSI.
- BB (Bollinger Bands) – Another oscillator in the form of two lateral bands predicts oversold and undersold market conditions.
- OBV (On-Balance-Volume) – OBV is a volume-based indicator measuring the asset buying and selling value.
- ADX (Average Directional Index) – ADX measures the trend of assets with the current and previous value.
- MACD (Moving Average Convergence-Divergence Indicator) – A momentum-based indicator showing the value of an asset by two moving averages.
What’s the Difference Between Technical Analysis and Fundamental Analysis?
As discussed, technical analysis focuses mainly on historical/current volume and price data. In contrast, the method of fundamental analysis (FA) attempts to offer a broader perspective by including additional external components, such as qualitative factors.
In the eyes of fundamental analysis, the future asset price is determined by more than historical data. Fundamental analysis determines asset value via micro and macroeconomic components such as brand reputation, market competition, industry behavior, and growth rates.
All in all, fundamental analysis aims to generate an accurate prediction through a more rounded observation, containing more components and external influences. By attempting to be more accurate in its analysis and forecasting, with more factors comes more complications.
So, while technical analysis shows us the numbers as a basis for analysis, its counterpart is used more as a predictive tool by involving more potential influences upon market behavior. In performing two key roles for DeFi understanding and operations, technical and fundamental analysis can be combined to grant traders a balanced method for market analysis and prediction.
Final Thoughts on Applying Technical Analysis in DeFi
Technical analysis has a long history in the financial world, naturally developing into the DeFi market with cryptocurrencies. But despite the analytical precision and potential for prediction, not all technical analysis methodologies will guarantee solid investments.
We recommend applying various TA indicators alongside fundamental analysis techniques to provide a quality overview for informed investments.