A process of identifying trend reversals at
an earlier stage to formulate the buying
and selling strategy.
Technical analyst study the relationship
between price-volume and supply-demand
for the overall market and the individual
stock.
Themarket value of the scrip is
determined by the interaction of supply
and demand.
The market discounts everything.
The market always moves in trend.
History
repeats itself. It is true to the stock
market also.
Technicalanalysis is based on the doctrine
given by Charles H. Dow in 1884, in the
Wall Street Journal.
A.J. Nelson, a close friend of Charles Dow
formalised the Dow theory for economic
forecasting.
Analysts
used charts of individual stocks
and moving averages in the early 1920s.
Dow developed his theory to explain the
movement of the indices of Dow Jones
Averages.
The theory is based on certain hypothesis:
The first hypothesis is that no single individual or
buyer can influence the major trend of the market.
The second hypothesis is that market discounts
every thing.
The third hypothesis is that the theory is not
infallible.
According to Dow theory the trend is divided
into
Primary
Intermediate/Secondary
Short term/Minor
The security price trend may be either
increasing or decreasing.
When the market exhibits the increasing trend,
it is called ‘bull market’ and when it exhibits a
decreasing trend it is called ‘bear market’.
The bull market shows three clear-cut
peaks.
Each peak is higher than the previous peak.
The bottoms are also higher than the
previous bottoms.
Y
Bull market
T3
T2 Speculation
phase
P
R B2
I T1
Good corporate
C earnings
E
Revival B1
of market
confidence
phase-1
X
Days
The market exhibits falling trend.
The peaks are lower than the previous peaks.
The bottoms are also lower than the previous
bottomsY. Bear market
Loss of hope (phase-1)
P T1
R Recession in business (phase-2)
I
C T2
B1
E
Distress selling
(phase-3)
B2
B3
X
Days
Thesecondary trend or the intermediate
trend moves against the main trend and
leads to correction.
Thecorrection would be 33% to 66% of
the earlier fall or increase.
Compared to the time taken for the
primary trend, secondary trend is swift
and quicker.
Minor
trends or tertiary moves are called
random wriggles.
They are simply the daily price
fluctuations.
Minortrend tries to correct the secondary
trend movement.
Inthe support level, the fall in the price
may be halted for the time being or it may
result even in price reversal.
In this level, the demand for the particular scrip
is expected.
In
the resistance level, the supply of scrip
would be greater than the demand.
Further rise in price is prevented.
Selling pressure is greater and the increase in
price is halted for the time being.
Volume of Trade
Volume expands along with the bull market and
narrows down in the bear market.
Technical analyst use volume as an excellent method
of confirming the trend.
Breadth of the Market
The net difference between the number of stock
advanced and declined during the same period is the
breadth of the market.
A cumulative index of net differences measures the
market breadth.
Short sales
This is a technical indicator also known as short
interest.
It refers to the selling of shares that are not owned.
The word moving means that the body of
data moves ahead to include the recent
observation.
The moving average indicates the
underlying trend in the scrip.
For identifying short-term trend, 10 to 30
days moving averages are used.
In the case of medium-term trend 50 to
125 days are adopted.
To identify long-term trend 200 days
moving average is used.
RSI was developed by Wells Wilder.
Identifies the inherent technical strength
and weakness of a particular scrip or
market. RSI can be calculated for a scrip
by adopting the following formula
100
RSI =100
1 Rs
Rs = Average gain per day
Average loss per day
If the share price is falling and RSI is rising, a
divergence is said to have occurred.
Divergence indicates the turning point of the
market.
ROC measures the rate of change between
the current price and the price ‘n’ number of
days in the past.
ROC helps to find out the overbought and
oversold positions in a scrip.
ROC can be calculated by two methods.
In the first method current closing price is expressed
as a percentage of the 12 days or weeks in past.
In the second method, the percentage variation
between the current price and the price 12 days in
the past is calculated.
Charts are graphic presentations of the
stock prices. These also have the following
uses:
Spots the current trend for buying and selling
Indicates the probable future action of the
market by projection
Shows the past historic movement
Indicates the important areas of support and
resistance
These charts are one-dimensional and there
is no indication of time or volume.
The price changes in relation to previous
prices are shown.
The change of price direction can be
interpreted.
Some inherent disadvantages are:
They do not show the intra-day price movement.
Only whole numbers are taken into consideration,
resulting in loss of information regarding minor
fluctuations.
Volume is not mentioned in the chart.
The bar chart is the simplest and most
commonly used tool of a technical analyst.
A dot is entered to represent the highest
price at which the stock is traded on the
day, week or month.
Another dot is entered to indicate the
lowest price on that particular date.
A line is drawn to connect both the points.
A horizontal nub is drawn to mark the
closing price.
Chart Patterns
V Formation Tops and
bottoms
Double top and bottom Head and
shoulders
Inverted head and shoulders
Thetriangle formation is easy to identify
and popular in technical analysis.
The different triangles are:
Symmetrical
Ascending
Descending—inverted
1. Fundamental analysts analyses financial
strength of corporate, growth of sales, earnings
and profitability.
The technical analysts mainly focus the attention on
the past history of prices.
2. Fundamental analysts estimate the intrinsic
value of the shares.
Technical analysts mainly predict the short term price
movement.
3. Fundamentalists are of the opinion that supply
and demand for stocks depend on the
underlying factors.
Technicians opine that they can forecast supply and
demand by studying the prices and volume of trading.
