An Overview On Technical Analysis for The Stock Market

An Overview On Technical Analysis for The Stock Market
For stock traders or those who actively trade stocks instead of holding onto them for years, technical analysis is one of most useful - if not the most useful - skill there is.

Technical Analysis is a way of forecasting the movement of stock prices by analyzing past market data - primarily through stock price and volume.

And in this article, we'll go over some basic stuff about Technical analysis as well as some free reference materials we can use to learn more.

First we should set a common understanding of what technical analysis is, and what it can and cannot do for us.

What It Can Do:
  • It can predict the short-term movement of the stock (up or down). So it could tell you the movement in the next few days or weeks. Maybe the next month or two as well. 
  • It can help you understand what the market in general feels about the stock. Whether it's bullish, bearish or unsure.
  • It can help you better cope with the market volatility. For example, it can tell you that price and volume indicates that the stock is undergoing a correction or consolidation but should eventually go up (or down) again. In this way, you can decide for yourself whether to  buy, hold, or sell with a rational mind, instead of succumbing to fear or greed.

What It Cannot Do:
  • It cannot predict the future. If you want to know which stock will really grow in the next few years, you need to do Fundamental Analysis instead. As far as I know Warren Buffet does not use technical analysis to pick his stocks. He uses value investing. (But right now, I'm not even qualified to even think of trying to explain that.)
  • Technical Analysis is not 100% effective (and to be honest, nothing is). The disclaimer "past performance is not an indicator of future performance" holds true. That said, it's still much better than simple impulse or knee-jerk analysis. And over time, with enough skill and practice, you should be right more times than not.
  • It can predict what but not when. It might tell you a stock is going to go up, but it won't tell you whether that will happen tomorrow, next week, or next month.

(Having said those things, it's time for a full disclosure. Normally, I'd leave something like this at the end of the post but I would like to emphasize that I'm not an expert on the stock market. I'm not an expert on Technical Analysis, and I can't even say I have significant experience in using it. Sure, it's helped me from time to time. But it's not something I can honestly and confidently say will guarantee you extraordinary returns - or even just small returns; the stock market is a volatile and not really friendly place. But I'm sharing this so people can get started in knowing more about it.)

Concepts To Know:

Support - this is the price where investors were willing to buy and hence did go down further. This can be identified by looking at the chart and seeing at what price the stock refused to go down further.

Resistance - The price where a lot of investors were willing to sell, hence the price did not go up any further. This can be identified by looking at the chart and seeing at what price the stock refused to go up further.

Breakout - This is when the stock either goes down further from the support or goes up higher than the resistance

Reversal - when the trend will reverse itself (will go up after trending down or vice versa).

By using those concepts, and combining them, we can identify patterns in stock prices. But before we go to patterns there are general types of patterns that we should be aware of:

Bullish - when prices are trending up. In general this means stock prices have higher highs and higher lows

Bearish - when prices are trending down. In general this means prices have lower highs and lower lows.

Continuation - This is when the price goes up and down, without a particular trend. However they also are sort of rest periods. At some point the stock will continue it's upward or downward trajectory.

Free Resources:

Now that we have a basic understanding of terms, it's time to go to the meat of Technical Analysis. And for that, since I'm not an expert, I will refer you to Dan Zanger's site - chartpattern.com

(Dan Zanger is a stock-trader who grew his portfolio 29,000% - from 11,000 to 42,000,000 in around two years in the late '90s. He is based in the U.S and his site deals mainly with U.S. stocks, but the principles/patterns apply anywhere.)

This is actually where I learned to understand the different patterns and apply them to the PSE.

It's important to note that volume is an integral component when performing technical analysis. The price movements tend to catch our eyes, and we might be able to identify pattern easily by just using the price. But the patterns are only "true" if the volume also matches the pattern. Otherwise, the pattern can be unreliable.

I especially learned well to send a probe first, instead of committing a big chuck of my funds right away.

I would have wanted to discuss more, but as it is I'm not an expert nor experienced enough to dispense advise, techniques, and strategies that I myself am still testing. But hopefully this post was helpful to you nonetheless.


Enter your email address below get your free subscription and receive informative posts like this.

You can also like me on Facebook, circle me on Google+, or follow me Twitter @thePFApprentice.



How To Invest In The Stock Market Series:


photo credit: Iman Mosaad via photopin cc

4 comments:

  1. This is a good starter for those who want to "graduate" from being a mere investor to move up to being an aggressive trader level. Let's share this at OFW UsapangPiso forum https://www.facebook.com/groups/OFWusapangpiso/. :)

    ReplyDelete
    Replies
    1. Thanks Burn! I just joined; I'll share with the group if it hasn't been shared yet.

      Delete
  2. very informative. Can you please clarify further this statement "But the patterns are only "true" if the volume also matches the pattern. Otherwise, the pattern can be unreliable". Do you mean pattern has direct relationship with volume? If trend is bullish then the volume is high?

    ReplyDelete
    Replies
    1. Hi Anonymous,

      It has a direct relationship, but not in that way.

      If stock prices are rising, and the volume is high then it's a bullish sign. If prices are rising but volume is very low, then it's not sure. And if the prices are depreciating with high volume (number of transactions, total value of transactions), then its a bearish sign.

      Those aren't the only signs of bullish or bearish markets. But you can think of high volume as a gauge of the market's (buyers and sellers) conviction.

      Delete