Introduction to Technical Analysis

Contents
1. What’s Technical Analysis? 2. Graphs 3. Trends 4. The Golden Rule 5. Trends Lines, Support and Resistance Levels 6. Retracements 7. Summary
2

What’s Technical Analysis?
A method for estimating the future prices of securities based chiefly on two parameters:
1.Price History 2.Trade Volumes

3

Technical Analysis Does Not Look At…
Quarterly Reports, Macro/Micro Indicators, Interest Rates, Stock Market Indices, Predictions, Statements, News, Rumors… Because *:
1. Security prices are ultimately set by market forces – buyers and sellers. 2. History repeats itself, so… 3. Historic price and volume data is sufficient to assess and predict buyer and seller behavior

*

Per Technical Analysis theory

4

Candlestick Charts
Most popular type of graph to use in Tech Analysis

Opening Price Closing Price

High Price of period

Closing price Opening Price
5

Dow n

Low Price of period

Up

Graph Time Resolutions
• Daily – 1 candle = 1day
– Useful for analyzing short-term trends

• Weekly – 1 candle = 1 week
– Useful for analyzing intermediate trends

• Monthly – 1 candle = 1month
– Useful for long-term analysis

6

Trend – The Direction of Prices
3 Types of Trends:

Uptrend

Downtrend Sideways Trend
7

Golden Rule of T. Analysis Trading

Trade With The Trend
(The Trend is your Friend) • In an uptrend – Buy (Long) • In a downtrend – Sell/Don’t Buy/Short • In a sideways-trend – Sell/Don’t Buy So, how do you recognize a trend?
8

Trend Characteristics - Price
Formal Uptrend
1. Every peak is higher than the previous peak 2. Every trough is higher than the previous trough 

Formal Downtrend
1. Every peak is lower than the previous peak 2. Every trough is lower than the previous trough 
9

Trend Characteristics - Volume
• Trade volume = amount of securities traded • In distinct trends volumes typically:
– Are larger than in periods of sideways trends – Grow with the trend
sideways uptrend

sideways

uptrend

growing Small volumes

Medium volumes

growing

10

Trend Characteristics – Time Period
Trends are limited to a time period:
– Long Term Trend – 1 year or more – Intermediate Trend – 2-12 months – Short term Trend – 1 month or less
• Most investors use it • Use weekly or daily chart to analyze • Use daily chart • AKA Main Trend • Use monthly chart to detect

Important: Long-term trends will almost always include intermediate and short term trends in the opposite direction

11

Trendline
• Trendline = A line drawn over highs or under lows to show the prevailing direction of price
– Needs to touch at least 3 peaks or troughs – Helps determine future prices, change rates, buy/sell opportunities and more
ed erm Int ia dl i n tren rm te te e

erm rt t line o Sh end tr

12

Support and Resistance Levels
Horizontal trendlines may indicate Support and Resistance levels – Support level – The price level which the security has had difficulty falling below. It is thought of as the level at which a lot of buyers tend to enter the stock. – Resistance level - The price level which the security has had difficulty rising over. It is thought of as the level at which a lot of sellers tend to offload. Note: Round numbers (100, 800, etc.) tend to create support/resistance levels

Resistance Level Breakout

Support Level
13

Support and Resistance - 2
Trendlines may indicate the change in support and resistance levels during a trend
Resistance line Breakout

Support line

Example: an uptrending security with parallel support and resistance lines (price channel) Note: support and resistance trendlines are not always parallel 14

Support and Resistance Role Reversal • When a support level is broken it may turn into a resistance level • And vice-versa
Breakout of support level turns it into a resistance level

15

Retracements
• Retracement = A temporary reversal in the direction of the price of a security, countering the prevailing trend. • Retracements usually occur due to profit-taking • Retracements break the distinctiveness of trends
– In uptrends – create a trough that is lower than the previous trough – In downtrends – create a peak that is higher than the previous trough

16

The Risk of Retracements
• Retracements may fool us into thinking the trend has stopped or reversed • Trading based on retracements will cause us to lose or profit less
Example: in this downtrend there are two retracements. Buying the security at these . times will result in loss
17

Retracement Indicators- Price
1. Price should retrace by no more than 66% of the size of the previous • In theory the change would often Retracement move Fibonacci’s ratios: correlate with
23.6%, 38.2%, 50%, 61.8% • Fibonacci retracements is a popular tool to predict retracement end prices
– Draw a line between the high and low of the last trend and the tool will show relative Fibonacci levels

size

0% Uptrend

Move size

38.2% 50% 61.8% Retracement

18

Retracement Indicators - Other
2. Duration - retracements are short-lived – No more than 2-3 weeks in intermediate term 2. Usually arrive after strong price moves – Inducing profit taking 2. Volumes decline as the retracement progresses 3. Contradicting/Weak strength indicators – We’ll discuss those in the next slide deck 2. Invariably followed by a higher/lower peak/trough

19

Summary - Med-Short Trends Example
Uptrend stopped at 1000 Uptrend stopped at 900 Retracement Retracement Starts at 700 and stops at 800 Strong downtrend Sideway Trend b/w 630-700 Sideways Trend Up

Uptrend 900 level broken

800 level induces a retracement level breakout 700

High Volumes

Small volumes

Volume growth

Note how support and resistance level build at round numbers:* …700, 800, 900

20

How Should We Trade?
Sell Long Buy Short Hold short Hold

Sell Short

Buy long

21

Photo Credits

• Stopwatch / casey.marshall http://www.flickr.com/photos/rsdio/3642425935

22