|



  



|  



 |



Fundamental factors help assess µIntrinsic Value¶ of a
security
«but as uncertainty associated with these factors is
high«
«in the short run the prices may deviate
considerably from the intrinsic value«
&
Most importantly

Not many investors are prepared to wait to realize

long term benefits by holding that security.
 As µKEYNES¶ put it
³In the long-run we are all dead´

«ãã
ããThus,
Thus, arises the need
for immediate
gratification«..
gratification «..

«..hence the holding

periods of investors tend
to be short & patience
runs out of steam«..
 ± ||
|

s Forecasting of future financial price

movements based on an examination of past
price movements.

s Does not result in absolute future

predictions; instead, it helps investors
anticipate what is "likely" to happen to
prices over time.
 p


s Depending only on Tech. Analysis to make an
investment decision brands an investor as a
CHARTIST or TECHNICAL ANALYST.
s Economic Premise ± Forces of demand & supply
determine the pattern of market price & volume of
trading in share.
s Greater the demand for company¶s share, the higher its
market price«..Greater the supply of a company¶s
share in the market, the lower the market price
 p


s Common Observation :- Human nature remains more or less
constant«tends to react to similar situations in consistent
ways.
s Based on this Premise, by studying the nature of previous
market turning points«it¶s possible to identify major market
tops & bottoms.
s Technical Approach to investment reflects the idea that prices
move in trends determined by changing attitudes of investors
towards variety of Economic, Monetary, Political &
Psychological forces.
s Huge quantum of data represented in CHARTS.
s Used on any security with historical trading data including
stocks, futures & commodities, fixed-income securities, forex,
etc. (more frequently associated with commodities and forex
where the participants are predominantly traders)
´
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Different timeframes that these two approaches use is a

result of the nature of the investing style to which they
each adhere«time taken for their respective data to
reflect in stock prices.
 M|




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p   p

Even if they are seen as

POLAR OPPOSITES

of

INVESTING
 


 
 

 Once Fundamental Analysis have zeroed in on

the stocks«..
Their purchases or sale can be at best be timed
through Technical Analysis«..

 Many market participants have experienced

great success by combining the two«..
Having both the fundamentals and technical
judgments on your side can provide the best-
case scenario for a trade«..
 PEEPING INTO CHARTIST PSYCHE
Ú Stock market is rooted 15% in economics
& 85% in psychology.
Ú Record of past & present performance of
the Stock (not essentially of company) is
the key factor.
Ú Stock market dominated by Institutional
Investors operates on the µWolf Pack¶
theory of following the leaders«so when
major money managers start to buy,
irrespective of reason, the price of the
stock will go up & vice versa.
All such moves are shown by Technical
Indicators.
Ú Act on theµWHAT¶ & not the
µWHY¶«they are not impressed by the
fundamental value of any security as with
current & prospective values reflected by
market action.
Few more Thinking Patterns

Ú Not committed to a buy-and-hold policy

Ú They do not separate INCOME from CAPITAL GAINS«look
for total returns«because if stock is be judged solely on its
income, a non-dividend payer would have no value at all
Ú No real value to any stock & price reflects supply-demand which
is governed by hundreds of factors(rational & irrational) « no
one can grasp & weigh them all but mkt does so automatically.
Ú With more exp of Tech. Ind., one becomes more alert to pitfalls.
Ú Technicians insist that market always repeats as cycles & trends.
Ú Breakouts from previous trends are important signals, they say.
Ú Recognize that securities of a strong company are often weak &
those of weak company may be strong.
Ú Technicians use charts to confirm fundamentals.
 p|
p p|

s |


 


 
Company's fundamentals,
along with broader economic factors and market psychology,
are all priced into the stock , removing the need to actually
consider these factors separately.
s  


 


Price movements are believed

to follow trends. This means that after a trend has been
established, the future price movement is more likely to be in the
same direction as the trend, than to be against it
s ?




 


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.
È 
p È

 È
p

p
p   



 
 
 
 


  
 
 


s More than 100 years old, it remains the foundation of Technical

Analysis.
s Formulated from a series of ±

  editorials
authored by Charles H. Dow from 1900 until his death in 1902.
s His BELIEF - The stock market is a reliable measure of overall
business conditions within the economy«..
By overall market analysis, these conditions can be accurately
identified along with the direction of major market trends & the
likely direction of individual stocks.
s Created the Dow Jones Industrial Index and the Dow Jones Rail
Index(now Transportation Index) from his theory.
s There are 6 BASIC PREMISES to the Dow Theory.
 
 
µ The Market Discounts Everything¶
Ú Over any period of time, all factors ±
- those that have happened,
- are expected to happen
&
- could happen
are all priced into the market.
Ú As things change (such as market risks), the
market adjusts along with the prices, reflecting
that new information.
 
 
µThe Three ± Trend Market¶
> Identifies 3 trends within the market:
- Primary (Largest trend / Lasts > 1 year)
- Secondary (Intermediate / Lasts 3 wk ± 3 mth/
Associated with a movement
against the primary)
- Minor (Lasts < 3 wk/ Associated with the
movements in the intermediate trend)
> While market tends to move in a general direction or
trend it doesn't do so in a straight line

> Market rallies up to a high (peak) & then sells off to a low
(trough) but will generally move in one direction
> Greater the time period of trend, more the importance
 p



> An upward trend is broken

up into several rallies

> Each rally has a high and a

low

> Each peak in the rally must

reach a higher level than
the previous rally's peak,
and each low in the rally
must be higher than the
previous rally's low
p


> A downward trend is
broken up into several sell-
offs

> Each sell-off also has a high

and a low

> Each new low in the sell-off

must be lower than the
previous sell-off's low and
the peak in the sell-off must
be lower then the peak in
the previous sell-off
 p


 
 
ƒ Major trend/ tells main direction/ most important
ƒ Persists until there¶s a confirmed reversal
ƒ Most important aspect - to identify its direction & to trade
with it; not against it
Secondary Trend :-
ƒ Moves in opposite direction of primary or as a correction
E.g. an upward primary trend will be composed of
secondary downward trends
ƒ Retracement of the secondary trend generally ranges
between 1/3 to 2/3 of the primary trend's movement.
ƒ Its moves are often more volatile than of the primary move.
Minor Trend :-
ƒ Corrective moves within secondary/ against latter¶s direction
ƒ Short-term nature so not of major concern
ƒ Watched with the large picture in mind, as these short-term
price movements are a part of both the primary and secondary
trends
ƒ Include a considerable amount of noise« too much focus can
lead to irrational trading as traders get distracted by short-term
volatility and lose sight of the bigger picture.
 
 
µThe Three Phases of Primary Trends¶

Ú 3 phases to every primary trend

- Accumulation Phase (Distribution phase)
- Public Participation phase
- Excess Phase (Panic phase).

Ú Each of the above three phases apply to both bull

& bear markets
Primary Upward Trend (Bull Market)
 |
    

--
- first stage / start of the upward trend
- point at which informed investors start to enter the market &
start buying in an oversold market
- typically comes at the end of a downtrend
- price is at its most attractive level because by this point
most of the bad news is priced (adjusted) into the market.
- comes at the end of downward move so most difficult to spot
& can be mistaken with secondary move

       

±
- negative sentiment dissipates as business conditions improve
- more & more investors move back in, sending prices higher
- longest lasting phase & also with the largest price movement
- new upward primary trend has confirmed itself
 |


 


 last stage in the upward trend
 market is hot again for all investors
 last of the buyers start to enter the market hoping that recent
returns will continue« but unfortunately for them, they are
buying near the top
 early entrants secure their positions by selling off to laggards
 perception that everything is running great & only good things
lie ahead ³irrational exuberance´
 lot of attention should be placed on signs of weakness in the
trend as the trend may be nearing start of a primary downturn
Primary Downward Trend (Bear Market)

 |

    


 first phase in a bear market
- informed buyers sell (distribute) their positions into an
overbought market
- opposite of the accumulation phase during a bull market
- overall sentiment continues to be optimistic, with expectations
of higher market levels
- continued buying by the last of the investors in the market
- difficult to spot in its early stages because may be disguised as a
secondary downward trend within the primary upward trend.
- represented by a topping of the market where the price
movement starts to flatten as selling pressure increases
       


 similar to the one in a primary upward trend in that it
lasts the longest & represent the largest part of the move
- business conditions are sensed as getting worse & the
sentiment becomes more negative as time goes on
- market continues to discount the worsening conditions as
selling increases and buying dries up
- most trend followers and technical traders start to dump
their positions
- new downward trend confirms itself
 |
  


 last panic filled phase & can lead to very large sell-offs in
a very short period of time
- abound with negative sentiment, including weak outlooks
on companies, economy & overall market.
- many investors selling off their stakes in panic are the
ones who entered the market during the excess phase of
bull run

 
 
 

 
  
  

  
 




 


ã
 
 
µMarket Indexes Must Confirm Each Other¶
Ú A major reversal from a bull to a bear market (or vice
versa) cannot be signaled unless both indexes (traditionally
the Dow Industrial and Rail Averages) are in agreement.

Ú If the two Dow indexes are in conflict, there is no clear

trend in business conditions

Ú When trying to confirm a new primary trend, therefore, it's

vital that more than one index shows similar signals within
a relatively close period of time
 
 
µVolume Must Confirm the Trend¶
Ú Main signals for buying & selling are based on the price
movements of the indexes
Ú Volume used as a secondary indicator to help confirm what
the price movement is suggesting«volume should increase
when the price moves in the direction of the trend & decrease
when the price moves in the opposite direction of trend
For e.g. in an up trend, volume should increase when the price
rises and fall when the price falls
Ú Conversely, if volume runs counter to the trend, it is a sign of
weakness in the existing trend.
For e.g. if the market is in an up trend but volume is weak on
the up move, it is a signal that buying is starting to dissipate
Ú Once a trend is confirmed by volume, the majority of money
in the market should be moving with the trend & not against
it.
 
 
µTrend Remains in Effect Until Reversal Occurs¶
Ú Trend remains in effect until the weight of evidence
suggests that it has been reversed
Ú Traders wait for a clear picture of a trend reversal because
the goal is not to confuse a true reversal in the primary
trend with a secondary trend or a brief correction
Ú For e.g. imagine that the primary trend is up, but the
indexes are currently selling off.
If an investor were to take a short position, concluding that
the sell-off is the start of a new primary downward trend,
they could incur heavy loses when the primary trend
continues
Upward Trend Reversal Downward Trend Reversal
p
|

p

±|


p
|

p

s Major importance / Aspects of Dow theory are also
incorporated into other theories as Elliott Wave theory
s Relevance as a stand-alone analytical technique has
weakened due to advent of more advanced techniques &
tools
s Followers can miss out on large gains due to the
conservative nature of a trend-reversal signal
s Over time, the economy - and the indexes originally used by
Dow have changed«so link between them has weakened
E.g. Industrial & Transportation sectors of the economy
are no longer the dominant parts«Technology now takes
up a considerable portion of economic production &
growth
s Basis for watching indices ± they¶re the leading
indicators of economy which has become clearly
segmented ± more sectors need to be analyzed
which reduces accuracy & timeliness
E.g. Having to look at six indexes while still
adhering to Premise #4: Indexes Must Confirm
Each Other

s The ideas of trending markets and peak-and-

trough analysis are found constantly within
technical writings and ideas. Also of importance in
Dow theory is the idea of emotions in the
marketplace, which remains a characteristic of
market trends.


  p
p
± TREND
- Concept & Definition
- Types
- Trend lengths/ Trend lines/ Channels
- Importance
± SUPPORT & RESISTANCE
- Concept & Importance
± TRADING RANGE

± VOLUME ( Price & Volume )

- Concept & Importance
 |
¢p







¢p
s General direction in which a
security or market is headed.
s In any given chart, prices do not
tend to move in a straight line in
any direction, but rather in a
series of highs and lows.
s In technical analysis, this
movement of the highs and lows
in a particular direction
constitutes a trend.
s Very critical to anticipate the
trend
s Not always easy to spot a trend.

| 
|
|
Ú Up trends
- When each successive peak & trough is higher
- Classified as a series of higher highs and higher lows
- Each successive low must not fall below the previous lowest
point or the trend is deemed a reversal
Ú Downtrends
- If the peaks and troughs are getting lower
- Characterized by one of lower lows and lower highs
Ú Sideways/ Horizontal Trends
- When there¶s little movement up/down in the peaks & troughs
- Actually not a trend on its own, but a lack of a well-defined
trend in either direction
 |
¢

¢|

 

|

 

Ú 3 types of Trend Classifications
Ú A trend of any direction can be classified as a
- Long-term/ Major trend ( > 1year)
- Intermediate trend (Between 1 to 3 months), or
- Short-term trend ( < 1 month)
Ú Long-term trend is composed of several intermediate
trends, which often move against the direction of the
major trend «.. the longer the trend, the more important
it is
Ú If the major trend is upward and there is a downward
correction in price movement followed by a continuation
of the upward trend, the correction is considered to be an
intermediate trend.
Ú The short-term trends are components of both major and
intermediate trends.
Example of Trend Length/ Classification
 |
¢

¢|




|




s Simple charting technique that
adds a line to a chart to represent
the trend in the market or a stock
s Clearly show the trend & also
used in the identification of trend
reversals
s In fig. line represents the support
stock has every time it moves from
a high to a low
s Helps traders to anticipate the
point at which a stock's price will
begin moving upwards again
s Downward trend line is drawn at
the highs of the downward trend.
It represents the resistance level
that a stock faces every time the
price moves from a low to a high.
 |
¢p



¢p


s A channel or channel lines, is
the addition of two parallel
trend lines that act as strong
areas of support and resistance.
s The upper trend line connects a
series of highs & the lower
trend line connects a series of
lows.
s A channel can slope upward,
downward or sideways.
s Used to
- clearly display the trend
- illustrate important areas of
support and resistance.

¢mm 


|
¢

s It is important to understand & identify trends

so that one is able to ³trade with´ rather than
³against them´.

s 2 important sayings in technical analysis :

- "the trend is your friend"
- "don't buck the trend,

|
|p
 p

> Support - price level through
which a stock or market
seldom falls
or
Demand is thought to be
strong enough to prevent the
price from declining further
> Resistance - price level that
a stock or market seldom
surpasses
or
Selling is thought to be
strong enough to prevent the
price from rising further
 p
!" p



> Represent key junctures where the forces of supply and demand
meet
> When supply & demand equal, prices move sideways as bulls/
bears fight for control.
> Supply synonymous with bearish, bears and selling.
> Demand synonymous with bullish, bulls and buying.
> SUPPORT LOGIC :
- As the price declines towards support & gets cheaper, buyers
become more inclined to buy/ sellers less inclined to sell
- By the time the price reaches support level, demand is
believed to overcome supply & prevent the price from
falling below support.
- Support levels are usually established below the current price
- Price movements can be volatile & dip below support
briefly«so to accommodate support zones are established
 p
!" p



> Support doesn¶t always
hold and a break below
support signals that the
bears have won out over the
bulls.
> Support breaks & new lows
signal a new willingness to
sell even at lower prices
&/or a lack of incentive to
buy
> Once support is broken,
new support level will have
to be established at a lower
level.
 p
!" p



> RESISTANCE LOGIC :
- As the price advances towards resistance, sellers become
more inclined to sell & buyers become less inclined to buy

- By the time price reaches resistance level, supply is believed

to overcome demand & prevent the price from rising
above resistance.

- Resistance levels are usually established above the

current price

- Price movements can be volatile & rise above resistance

briefly«so to accommodate support zones are established
 p
!" p



> Resistance does not always
hold & a break above it
signals that bulls have won
over the bears.
> Break above it shows a
new willingness to buy
&/or a lack of incentive to
sell.
> Resistance breaks & new
highs indicate buyers have
increased their
expectations & are willing
to buy at even higher
prices.
> Once breached, another
resistance level establishes
at a higher level.
 p
!" p



s Role Reversal:
- Thus, once a resistance or support level is
broken, its role is reversed.
- If the price falls below a support level, that
level will become resistance.
- If the price rises above a resistance level, it will
often become support
 p
!" p



s This phenomenon of
µRole Reversal¶ occurs
rather frequently,
even with some of the
most well-known
companies

s In almost every case, a

stock will have both a
level of support and a
level of resistance and
will trade in this range
as it bounces between
these levels

|
|p
 mm 



|
|p

> Used to make trading decisions & identify a trend
reversal «essential to identify key levels
Y         



       
 



   
 
 
  
 

  

  
  

> Both test and confirm trends

„  
 


   
  
    

  


> Affect the way that a stock is traded
 

  
    
 
 
  
 


  
  
   



      
  

  


  
  
s Time Pd. when prices move within a relatively tight range.
s Signals an even balance of forces of supply/demand
s When the price breaks out of the trading range, above or
below, it signals that a winner has emerged.
s A break above is a victory for the bulls (demand) and a
break below is a victory for the bears (supply).
  
  ¢
 
  ¢ p




 !"
#$
± !!
 ï
  p

s Volume is simply the number of shares or
contracts that trade over a given period of time,
usually a day

s Higher the volume, the more active the security.

s To determine the movement of the volume (up or

down), chartists look at the volume bars that can
usually be found at the bottom of any chart.
Volume bars illustrate how many shares have
traded per period and show trends in the same
way that prices do
 ï
  m

s Used to confirm trends & any price movement up or down
with relatively high volume is seen as a stronger, more
relevant move than a similar move with weak volume
s Volume should move with the trend. If prices are moving in
an upward trend, volume should increase & vice versa
s If the previous relationship between volume & price
movements starts to deteriorate, it is usually a sign of
weakness in the trend.
s If there¶s a contradiction between two different
indicators« it¶s called divergence «e.g. clear upward
trend on declining volume
s Used to confirm chart patterns
s Price is preceded by volume . If volume is starting to
decrease in an up trend, it is usually a sign that the upward
run is about to end.
SOME MORE RELEVENT THEORIES IN
BRIEF

± Y

 „ Y 
Y

± !„ Y „ Y "Y

± "„  "„
 ELLIOTT WAVE PRINCIPLE
Ú By Ralph Nelson Elliott the in late 1920s/ Dow based
Ú He noted that all cycles in nature- whether of tide, weather
or life had the capability of repeating them infinitely
Ú 2 forces, one building up & the other tearing down
characterized these movements
Ú Upward and downward swings of the mass psychology
always showed up in the same repetitive patterns, which
were then divided into patterns he termed "waves".
Ú Noted that in an 80 yr period, mkt moved forward in 5
waves & then declined in series of 3 waves
Ú Trends show the main direction of prices while corrections
move against the trend. Elliott labeled these "impulsive
waves" and "corrective waves´
Ú He was able to breakdown & analyze markets in much
greater detail
Ú Interpretation of the Elliott Wave Theory is as follows:
 Every action is followed by a reaction.

 There are five waves in the direction of the main trend

followed by three corrective waves (a "5-3" move).

 A 5-3 move completes a cycle.

 This 5-3 move then becomes two subdivisions of the next

higher 5-3 wave.

 The underlying 5-3 pattern remains constant, though the

time span of each may vary.
A series of categories have been assigned to the waves
in order of the largest to the smallest:

§Grand Supercycle
§Supercycle
§Cycle
§Primary
§Intermediate
§Minor
§Minute
§Minuette
§Sub-Minuette
The 3 waves in the direction of the trend are impulses,
so these waves also have five waves.
The waves against the trend are corrections and are
composed of three waves.
 KONDRATIEV WAVE THEORY
Ú An economic theory created by Soviet economist
Nikolai Kondratiev that states that Western capitalist
economies are susceptible to high performance
volatility.
Ú Also known as "Kondratiev Cycle".
Ú Kondratiev called these large performance fluctuations
as "super-cycles" which last 50-60 years
Ú He claimed to have predicted in the 1920s the stock
market crash of 1929, also known as Black Thursday.
His prediction was based on the market crash of 1870.
 CHAOS THEORY

Ú A mathematical concept explaining that it¶s

possible to get random results from normal
equations.
Ú The main precept behind this theory is the
underlying notion of small occurrences significantly
affecting the outcomes of seemingly unrelated
events.
Ú Also referred to as "non-linear dynamics".
Ú Highly controversial and extremely complicated.
 





p 



p
p   

 





p 



p
p   

 # p 
 


± ±

p

 a graphical representation of a series of prices over a
specific time frame
- referred to as time series plots
- used exclusively by technical analysts
- also of great use for fundamental analysts
- one of the most fundamental aspects of
technical analysis

± p
 
 time scale
- price scale & price point properties
 
  

§ y-axis (vertical axis)

denotes the price scale
§ x-axis (horizontal axis)
represents the time
scale
§ Prices are plotted from
left to right across the
x-axis with the most
recent plot being the
furthest right
||

Ú Refers to the range of dates at the bottom of the chart
which can vary from decades to seconds
Ú Most frequently used time scales are intra- day, daily,
weekly, monthly, quarterly and annually
Ú Each data point in these graphs will be a condensed version
of what happened over the specified period
e.g. for a weekly chart, each data point will be a
representation of the price movement of the week
Ú Shorter the time frame, the more detailed the chart
Ú Each data point can represent the closing price of the
period or show the open/ high/ low/ close depending on the
chart used
Ú
|










Ú Plotted on the right-hand side of the chart

Ú Shows a stock's current price & compares it to past data
points
Ú Goes from lower prices to higher prices as you move along
the scale from the bottom to the top
Ú Can either be constructed in a linear (arithmetic) or
logarithmic way
Ú If a price scale is constructed using a linear scale,
the space between each price point (10, 20, 30, 40) is
separated by an equal amount
Ú A price move from 10 to 20 on a linear scale is the
same distance on the chart as a move from 40 to 50
Ú If a price scale is in logarithmic terms, then the
distance between points will be equal in terms of
percent change
A price change from 10 to 20 may be 100% increase
while a move from 40 to 50 may only be 25%
change, even though they are represented by the
same distance on a linear scale
Ú Most charting programs refer to the logarithmic
scale as a semi-log scale, because the time axis is
still displayed arithmetically.
 ARITHMATIC V/S LOGARITHMIC

Ú „ 


  
  
 

 

 
  
  

  # 
Ú 
   
  
  


 $ %
  

  
&

    

Ú 
 #

  
     

    

 Y 
$ # 
$'
   
 
 &  
± p
| 

- four main types of charts used by investors &

traders depending on the information that they are
seeking & their individual skill levels

 

 
  
 

 

  

 
 
p 
§ Most basic of the 4 charts

§ It represents only the closing

prices over a set time period

§ The line is formed by

connecting the closing prices
over the time frame which is
considered most important
price in stock data

§ Do not provide much detail

(visual information) such as
high, low and opening
prices.
 p 
§ expands on the line chart by adding several more key pieces
of information to each data point
§ made of a series of vertical lines representing each data pt
§ vertical line represents the high and low for the trading
period, along with the closing price
§ close & open are represented on the vertical line by a
horizontal dash
§ opening price -- dash on the left side of the vertical bar
§ closing price -- dash on the right side of the vertical bar
§ left dash (open) lower than the right dash (close) ± black --
up period for the stock -- means it has gained value
§ right dash (close) lower than the left (open) ± red -- down
value
§ effectively display a large amount of data/
 Candlestick Charts
§ originated in Japan over 300 years ago
§ requires the open/ high/ low / close
§ daily candlestick is based on the open price, the intra-day
high & low & the close
weekly candlestick is based on Monday's open, the weekly
high-low range & Friday's close.
§ similar to a bar chart as thin vertical line showing the
period's trading range
§ difference comes in the formation of a wide bar on the
vertical line indicating the difference between the open and
close
§ if stock closes above opening trade -- white or clear (white
body)
§ If stock closes below opening trade -- red or black (black
body)
§ the lines above & below are called shadows & represent the
high and low.
 Point & Figure Chart

§ based solely on price movement, and do not take

time into consideration

§ highly simplified

§ little or no price movement deemed irrelevant & so

not duplicated on the chart

§ only price movements exceeding specified levels are

recorded«..this focus on price movement makes it
easier to identify support/ resistance levels, bullish
breakouts & bearish breakdowns
§ Chart price movements are combined into either a
rising column of X's or a falling column of O's«each
column as representing either an up trend or a
downtrend
§ Each X or O occupies what is called a box on the chart
§ Each chart has a setting called the Box Size -- amount
that a stock needs to move above the top of the current
column of X's (or below the bottom of the current
column of O's) before another X (or O) is added to that
column
§ Each chart has a second setting called the Reversal
Amount that determines the amount that a stock needs
to move in the opposite direction (down if we are in a
rising column of X's, up for a column of O's) before a
reversal occurs
§ Whenever this reversal threshold is crossed, a new
column is started right next to the previous one, only
moving in the opposite direction

§ As long as a stock is in an up trend and it doesn't move

down more than the 'reversal distance' (i.e., the box
size multiplied by the reversal amount), the P&F chart
will show a growing column of X's. Similarly, a stock in
a downtrend will cause a descending column of O's to
appear

§ Only when the stock changes direction by more than

the reversal distance will a new column be added to the
chart

§ Traditionally, the box size is set to 1 and the reversal

amount is 3
± p



# distinct formation on a stock chart that creates a trading
signal or a sign of future price movements
# theory behind chart patters is based on assumption that
µhistory repeats itself¶
# much of our understanding of chart patterns can be
attributed to the work of Richard Schabacker
# 2 types of patterns within the area of technical analysis :
reversal - signals that a prior trend will reverse upon
completion of the pattern
continuation - signals that a trend will continue once the
pattern is complete
# found over charts of any timeframe
# the most important & frequently studied patterns are:
 ]    
s one of the most popular and reliable
s reversal chart pattern signaling that the security is
likely to move against the previous trend
s two versions of the head and shoulders chart pattern
Head & Shoulders top
Head & Shoulders bottom/ inverse head & shoulders
s four main parts:
two shoulders + a head + a neckline
each individual head and shoulder is comprised of a
high and a low
s neckline is a level of support or resistance
 ù
| 
s well-known pattern signaling trend reversal
s one of the most reliable & commonly used
s formed after a sustained trend
s created when a price movement tests support or
resistance levels twice and is unable to break through
s often used to signal intermediate and long-term trend
reversals
s double top pattern -- the price movement has twice
tried to move above a certain price level &
after two unsuccessful attempts at pushing the price
higher the trend reverses & price heads lower
s double bottom -- the price movement has tried to go
lower twice but has found support each time,
after the second bounce off of the support, the security
enters a new trend and heads upward.
 M || 
s reversal chart pattern

s not as prevalent in charts as the above 2 but they act in

a similar fashion

s formed when the price movement tests a level of

support or resistance three times & is unable to break
through; this signals a reversal of the prior trend

s after the first two support/resistance tests are formed

in the price movement, the pattern will look like a
double top or bottom, which could lead a chartist to
enter a reversal position too soon«confusion can occur
 š 
s also referred to as a saucer bottom
s long-term reversal pattern that signals a shift from a
downward trend to an upward trend
s traditionally thought to last anywhere from several
months to several years
s looks similar to a cup and handle pattern but without
the handle
s long-term nature of this pattern and the lack of a
confirmation trigger, such as the handle in the cup and
handle, makes it a difficult pattern to trade
   
s a continuation or reversal pattern
s slants in an upward or downward direction unlike sym.
triangle which moves sideways
s tend to form over longer periods, usually between three
and six months

s a falling wedge is bullish & a rising wedge is

bearish«in a falling wedge two trend lines are
converging in a downward direction

s If the price was to rise above the upper trend line, it

would form a continuation pattern, while a move below
the lower trend line would signal a reversal pattern
 '   
s a reversal pattern that forms after excessive
speculation drives prices up too far, too fast
s 3 main phases to the pattern: lead-in, bump and run
s Lead-in Phase : prices advance in an orderly manner/
no excess speculation/ trend line should be moderately
steep
s Bump Phase : forms with a sharp advance, and prices
move further away from the lead-in trend line
s Run Phase : begins when the pattern breaks support
from the lead-in trend line. Prices will sometimes
bounce off the trend line before breaking through.
Once the break occurs, the run phase takes over, and
the decline continues.
 ]    
s short-term (1-3 weeks) & continuation patterns
s formed when there is a sharp price movement
followed by a generally sideways price movement
s this pattern is then completed upon another sharp
price movement in the same direction as the move
that started the trend
s main difference seen in the middle section of the
chart pattern« pennant -- the middle section is
characterized by converging trendlines
flag pattern ± the middle section shows a channel
pattern showing no convergence between the
trendlines
s in both cases, the trend is expected to continue when
the price moves above the upper trendline
 ù | 
s most well-known chart patterns used
s three types of triangles, which vary in construct and
implication : symmetrical triangle, ascending &
descending triangle
s last anywhere from a couple of weeks to several months
s symmetrical triangle -- pattern in which two trendlines
converge toward each other«this pattern is neutral in
that a breakout to the upside or downside is a
confirmation of a trend in that direction
s ascending triangle -- the upper trend line is flat, while the
bottom trend line is upward sloping... generally thought
of as a bullish pattern in which an upside breakout is
expected
s descending triangle -- the lower trend line is flat & the
upper trend line is descending«generally seen as a
bearish pattern where a downside breakout is expected
 M   
s forms as a trading range during a pause in the
trend
s easily identifiable by two comparable highs and
two comparable lows
s these are connected to form 2 parallel lines that
make up the top and bottom of a rectangle
s sometimes also referred to as
* trading ranges
* consolidation zones
or
* congestion areas.
 š  
 

s pattern that slopes up or down and is bound by an

upper and lower trend line

s upper trend line marks resistance and the lower

trend line marks support

s price channels with negative slopes (down) are

considered bearish and those with positive slopes
(up) bullish
   
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s bullish continuation pattern that marks a
consolidation period followed by a breakout

s developed by William O'Neil (1988)

s two parts to the pattern:

the cup
the handle
s as the cup is completed, a trading range develops on
the right side & handle is formed

s subsequent breakout from the handle's trading

range signals a continuation of the prior advance
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s most chart patterns show a lot of variation in price

movement«difficult to get an overall trend idea
s simple combating method traders use to is to apply
moving averages
s moving average is the average price of a security over a
set amount of time
s they smoothen out day-to-day price fluctuations
s traders are better able to identify the true trend &
increase probability that it will work in their favor
± | 


- different types « differ in calculation but the
interpretation remains same
- calculations only differ in regards to the
weighting that they place on the price data
shifting from equal weighting of each price point
to more weight being placed on the recent data

- 3 most common types of moving averages are

simple
linear
exponential
  
 

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§ Critics argue that its usefulness is limited as each point in the
data series has the same impact on result regardless of where it
occurs in the sequence
§ The most recent data is more important and, therefore, it
should also have a higher weighting
 
± 
s least common out of the three
s is used to address the problem of equal weighting
s calculated by taking the sum of all the closing prices
over a certain time period«..multiplying them by the
position of the data point«.. then dividing by the sum
of the number of periods
s E.g. in a 5-day linear weighted average, today's closing
price is multiplied by five, yesterday's by four and so
on until the first day in the period range is reached
s These numbers are then added together and divided by
the sum of the multipliers.
 Exponential Moving Average (EMA)
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 Major Uses of Moving Averages
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s If the periods used in the calculation are relatively short, eg.
15 and 35, signal a short-term trend reversal
s when two averages with relatively long time frames cross
over (50 and 200, for example), this is used to suggest a
long-term shift in trend
s A falling stock may stop its decline & reverse direction once
it hits the support of a major moving average
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 Indicators And Oscillators
s Indicators are calculations based on the price &
volume of a security
s used as a secondary measure
s used in two main ways
- to confirm price movement
- confirm quality of chart patterns
- to form buy and sell signals
s two main types of indicators:
leading -- precedes price movements / predictive
lagging -- confirmation tool because follows price
movement
s There are also 2 types of indicator constructions
- those that fall in a bounded range
- those that do not fall in bounded range
The ones that are bound within a range are called

 
- these are the most common type of
indicators

2 main ways indicators are used to form buy & sell

signals is through :
crossovers
divergence
 Accumulation/Distribution Line
s popular volume indicators that measures money flows
in a security
s measure the ratio of buying to selling by comparing the
price movement of a period to the volume of that
period
s Calculated:
Acc/Dist = ((Close - Low) - (High - Close)) / (High -
Low) * Period's Volume
s  
 





 


  

 




 Average Directional Index
s measure the strength of a current trend
s can identify the momentum behind trends
s combination of two price movement measures: the
positive directional indicator (+DI) and the negative
directional indicator (-DI).
s measures strength of a trend but not direction
s +DI measures the strength of the upward trend while
the -DI measures the strength of the downward trend
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 Aroon
s a relatively new technical indicator that was created
in 1995
s measure whether a security is in an uptrend or
downtrend & the magnitude of that trend
s comprised of two lines, an "Aroon up" line (blue
line) and an "Aroon down" line (red dotted line)
s The Aroon up line measures the amount of time it
has been since the highest price during the time
period
s The Aroon down line, on the other hand, measures
the amount of time since the lowest price during the
time period
 Aroon Oscillator
s expansion of the Aroon
s simply plots the difference between the Aroon up and
down lines by subtracting the two lines
s This line is then plotted between a range of -100 and
100
s the centerline at zero in the oscillator is considered to
be a major signal line determining the trend
s the higher the value of the oscillator from the
centerline point, the more upward strength there is in
the security; the lower the oscillator's value is from the
centerline, the more downward pressure
s trend reversal is signaled when the oscillator crosses
through the centerline
e.g. the oscillator goes from positive to negative, a
downward trend is confirmed
 Moving Average Convergence
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§ MACD= shorter term moving average - longer term
moving average
§ When the MACD is positive, it signals that the
shorter term moving average is above the longer
term moving average and suggests upward
momentum
§ The opposite holds true when the MACD is negative
- this signals that the shorter term is below the
longer and suggest downward momentum
§ For more volatile securities, shorter term averages
are used while less volatile securities should have
longer averages
 Relative Strength Index
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 Stochastic Oscillator
s one of the most recognized momentum indicators
used
s idea behind this indicator is that
- in an up trend, the price should be closing near
the highs of the trading range, signaling
upward momentum in the security

- in downtrends, the price should be closing

near the lows of the trading range, signaling
downward momentum
- plotted within a range of zero & 100 and
signals overbought conditions above 80 and
oversold conditions below 20
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* +) 


* +) 

 Focus on Price :
- Objective is to predict future price
- Mkt acts as an indicator leading eco by 6-9 mth
- By focusing on price action, chartists are
automatically focusing on the future

 Supply/ Demand/ Price Action :

- Technicians use the open, high, low and close when
analyzing the price action of a security.
- Taken together these reflect forces of supply &
demand.

 Support/Resistance levels identified with ease to decide

action
 Pictorial Price History :
- Price chart is an easy to read historical account of
a security's price movement over a period of time
- Charts are much easier to read than a table of nos.
- Easy to identify the following
Reactions prior to and after important events
Past and present volatility
Historical volume or trading levels
Relative strength of a stock v/s overall market

 Assist with Entry Point :

- Timing plays an important role in performance &
improving returns
- Tech. Analysis helps to time a proper entry point
 
  
  

 Analyst Bias :
- It¶s subjective & personal biases can be reflected in the
analysis
E.g. if analyst is a perpetual bull, a bullish bias may
overshadow analysis; if the analyst is an eternal bear,
then the analysis will probably have a bearish tilt.

 Open to Interpretation :
- Though there are standards, many times two chartists
will look at the same chart & justifiably paint two
different scenarios or see different patterns
- It¶s more of an art than science«Is the cup half-empty
or half-full lies in the eye of the beholder
 Too Late :
- By the time the trend is identified, a substantial portion
of the move has already taken place & so the reward to
risk ratio is not great
- Lateness is a particular criticism of Dow Theory
 Always Another Level :
- Even after a new trend has been identified, there is
always another "important" level close at hand to
qualify their opinion
 Trader's Remorse :
- Not all technical signals and patterns work
- What works for one particular stock may not work for
another
- Even though many principles of technical analysis are
universal, each security will have its own idiosyncrasies.