TECHNICAL ANALYSIS

INTRODUCTION
The method used to analyse securities and make investment decisions are
Fundamental Analysis
Technical Analysis
Fundamental Analysis helps to estimate the value of a company or the intrinsic
value(true worth) of a company
MEANING
Technical Analysis is concerned with the study of the past price behaviour of shares as well
as volume of shares being traded in the past.
Technical analysts use charts and other tools to identify patterns that can suggest future
activity. Analysts who are using technical analysis believe that the historical performance of
stocks and markets are indicators of future performance
Technical analysis is not dependent on corporate events like quarterly results and special
announcements like earnings guidance and policy changes in operations to generate a buy /
sell recommendation.
WHAT IS TECHNICAL ANALYSIS?
Based entirely on prices
Use of historical data.
Do not include Balance Sheets, P&L Accounts (fundamental analysis)
The assumption being that the markets are efficient and all possible price sensitive
information is built into the price graph of a security / index.
Studying stock price graphs and a few momentum oscillators.
ASSUMPTIONS OF TECHNICAL ANALYSIS
1. Market discounts everything
Technical analysis assumes that, at any given time, a stock's price reflects everything that has or
could affect the company - including fundamental factors, economic factors and market psychology
2. Prices moves in trends
• Price movements are assumed to follow particular trend.
• Most technical strategies are based on this assumption.
3. History tends to repeat itself
•Another important idea in technical analysis is that history tends to repeat itself, mainly in terms of
price movement.
The repetitive nature of price movements is attributed to market psychology
In other words, market participants tend to provide a consistent reaction to similar market stimuli
over time.
ADVANTAGES OF TECHNICAL ANALYSIS
•Incase of pure technical analysis, there is very little or no room for interpretation. Thus the
system becomes Mechanical.
•Technical analysis helps traders and investors alike to review their investment decisions faster.
This is because prices tend to discount, i.e. anticipate, fundamental information much before an
actual event takes place.
•All results and indicators can be tested and verified historically.
•The advent of low-priced personal computer systems had made the use of technical analysis even
less difficult to test and employ.
•Today no of technical analysis charting software are available which will help you to generate buy
and sell signals for you.
•Technical analysis is considered to be a disciplined approach as it makes use of stop loss theory.
DISADVANTAGES OF TECHNICAL ANALYSIS
•Technical Analysis is not a valid scientific approach because most methods study prices based
upon price related data. Therefore it is necessary that a trader continuously review his trading
systems to check its work ability.
•The basis of technical analysis may be easy to learn but rather difficult to implement and master.
•Most traders tend to oscillate between different approaches and thus fail to follow through with
their analysis in a consistent manner, and this ultimately results into losses more often than
profit.
THREE TYPES OF TREND
Up Trend
Down Trend
Side Ways
UP TREND
It describes the price movement of a stock when the overall direction is upward. A
formal uptrend is when each successive peak and trough is higher than the ones found
earlier in the trend.
UpTrend
DOWN TREND
Describes the price movement of a stock when the overall direction is downward. A
formal downtrend occurs when each successive peak and trough is lower than the
ones found earlier in the trend.
SIDEWAYS TREND
It Describes the horizontal price movement that occurs when the forces of supply and
demand are nearly equal. A sideways trend is often regarded as a period of
consolidation before the price continues in the direction of the previous move.
SUPPORT & RESISTANCE
Support and resistance lines indicate likely
end of trends.
Resistance results from the inability to surpass
prior high.
Support results from the inability to break
prior low.
If support has broken than that level become
the resistance, and vice-versa.
The Importance of Support and Resistance -
used to make trading decisions and identify
when a trend is reversing.
TECHNICAL ANALYSIS: IMPORTANCE OF VOLUME
Volume is simply the number of shares or contracts that trade over a given period of
time, usually a day. The higher the volume, the more active the security
Volume is an important aspect of technical analysis because it is used to confirm
trends and chart patterns.
Volume should move with the trend. If prices are moving in an upward trend, volume
should increase (and vice versa).
If the previous relationship between volume and price movements starts to
deteriorate, it is usually a sign of weakness in the trend.
PRICE CHARTS
A chart is simply a graphical representation of a series of prices over a set time
frame. For example, a chart may show a stock's price movement over a one-year
period, where each point on the graph represents the closing price for each day the
stock is traded. It consists of
Opening price
High price
Low price Cl
Closing price
PRICE INDICATORS
The open – When the markets open for trading, the first price at which a trade executes is
called the opening Price.
The high – This represents the highest price at which the market participants were willing to
transact for the given day.
The Low – This represents the lowest level at which the market participants were willing to
transact for the given day.
The close – The Close price is the most important price because it is the final price at which the
market closed for a particular period of time. The close serves as an indicator for the intraday
strength. If the close is higher than the open, then it is considered a positive day else negative
The closing price also shows the market sentiment and serves as a reference point for the next
day’s trading. For these reasons, closing price is more important than the Open, High or Low
prices.
BAR CHARTS
This is a popular technique of showing
the price variation and volume on a
particular day.
The chart is made up of a series of
vertical lines that represent each data
point.
This vertical line represents the high and
low for the trading period, along with
the closing price.
The close and open are represented on
the vertical line by a horizontal dash.
LINE CHART
Line chart represents any variable over
a set period of time.
The line is formed by connecting value of
represented variable over the time
frame.
Line charts do not provide visual
information of the trading range for the
individual points such as the high, low
and opening prices and closing price.
They depict any variable like volume of
a security, index number, price etc
POINT AND FIGURE CHART
The point and figure chart is not well known
or used by the average investor but it has
had a long history of use dating back to the
first technical traders.
This type of chart reflects price movements
and is not as concerned about time and
volume in the formulation of the points.
In order to prepare this type of graph ,the
analyst has to decide as to what is a
significant price change .
It uses a chart with "X"s and "O"s for
predicting financial asset prices. The "X"s are
used to indicate rising prices and "O"s to
indicate falling prices
CANDLESTICK CHART
Similar to the bar chart, the candlestick also
has a thin vertical line showing the period's
trading range.
Candlesticks rely heavily on the use of colors to
explain what has happened during the trading
period. There are two color constructs for days
up and one for days that the price falls.
When the price of the stock is up and closes
above the opening trade, the candlestick will
usually be white or clear. If the stock has
traded down for the period, then the
candlestick will usually be red or black.
If the stock's price has closed above the
previous day's close but below the day's open,
the candlestick will be black or filled with the
color that is used to indicate an up day.
TECHNICAL ANALYSIS: CHART PATTERNS
A chart pattern is a distinct formation on a stock chart that creates a trading signal,
or a sign of future price movements. Chartists use these patterns to identify current
trends and trend reversals and to trigger buy and sell signals.
One of the assumptions of Technical Analysis is history repeats itself. The theory
behind chart patters is based on this assumption. The idea is that certain patterns are
seen many times, and that these patterns signal a certain high probability move in a
stock.
DOUBLE TOPS AND BOTTOMS
These two reversal patterns illustrate a
security's attempt to
Upon several attempts to move higher,
the trend is reversed and a new trend
begins. These chart patterns formed will
often resemble what looks like a "W"
(for a double bottom) or an "M" (double
top).
TRIANGLES
The three types of triangles, which vary
in construct and implication, are the
symmetrical triangle, ascending and
descending triangle.
These chart patterns are considered to
last anywhere from a couple of weeks to
several months.
FLAG AND PENNANT
These two short-term chart patterns are
continuation patterns that are formed when
there is a sharp price movement followed by
a generally sideways price movement.
The patterns are generally thought to last
from one to three weeks.
In a pennant, the middle section is
characterized by converging trendlines, much
like what is seen in a symmetrical triangle.
The middle section on the flag pattern, on
the other hand, shows a channel pattern, with
no convergence between the trendlines.
WEDGE
The wedge chart pattern can be either a
continuation or reversal pattern.
It is similar to a symmetrical triangle
except that the wedge pattern slants in
an upward or downward direction, while
the symmetrical triangle generally shows
a sideways movement.
The other difference is that wedges tend
to form over longer periods, usually
between three and six months.
TRIPLE TOPS AND BOTTOMS
ROUNDING BOTTOM
A rounding bottom, also referred to as a
saucer bottom, is a long-term reversal
pattern that signals a shift from a
downward trend to an upward trend.
This pattern is traditionally thought to
last anywhere from several months to
several years.
TECHNICAL ANALYSIS: MOVING AVERAGES
Most chart patterns show a lot of variation in price movement.
This can make it difficult for traders to get an idea of a security's overall trend. One
simple method traders use to combat this is to apply moving averages.
A moving average is the average price of a security over a set amount of time. By
plotting a security's average price, the price movement is smoothed out.
Once the day-to-day fluctuations are removed, traders are better able to identify
the true trend and increase the probability that it will work in their favor.
TYPES OF MOVING AVERAGES
Simple,
Linear and
Exponential.
TECHNICAL ANALYSIS: INDICATORS AND
OSCILLATORS
Indicators are calculations based on the price and the volume of a security that
measure such things as money flow, trends, volatility and momentum. There are two
types: leading and lagging.
A leading indicator precedes price movements, giving them a predictive quality, while
a lagging indicator is a confirmation tool because it follows price movement.
A leading indicator is thought to be the strongest during periods of sideways or non-
trending trading ranges, while the lagging indicators are still useful during trending
periods.
There are also two types of indicator constructions: those that fall in a bounded range and
those that do not.
The ones that are bound within a range are called OSCILLATORS - these are the most
common type of indicators.
Oscillator indicators have a range, for example between zero and 100, and signal periods
where the security is overbought (near 100) or oversold (near zero).