What You Need to Know about Stock Charts
Stockscores.com Perspectives for the week ending August 26, 2006
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In this week's issue:
I remember the first time someone showed me a stock chart. I was a University student studying Finance and had been indoctrinated with the obligatory financial theory about buying companies with good earnings and low P/E ratios. The guy who showed me a stock chart was a bit of wing nut, discussing waves and patterns and stochastic blah blah blah.
My friends and I secretly scoffed at him but I did follow the stocks he told me to watch. While I had no idea understanding of his methods I did find that his stock picks did what he said they would. Maybe there was something to the charts.
And so began my study of technical analysis. I still believe that many chartists are wing nuts but I do think that any investor can benefit from some education on how charts work. Here is a list of the things that every investor should know about stock charts.
1. The stock chart represents a record of what investors perceive. The stock market is a battle between buyers and sellers and the chart is the scoreboard. It tells a story about how information is interpreted by investors and their emotional reaction to that information.
2. Rising bottoms on a chart represent investor optimism.
3. Falling tops on a chart represent investor pessimism.
4. The highs that a market makes establish a price ceiling that serves as a psychological barrier. This line of resistance is strengthened the more times it is touched and the longer it holds up
5. The lows that a market makes establish a price floor that serves as a psychological barrier. This line of support is strengthened the more times it is touched and the longer it holds up.
6. Breaks through resistance are often the result of new, positive information about the company's ability to make money in the future.
7. Breaks through support are often the result of new, negative information about the company's ability to make money in the future.
8. The more volatile a stock's price movement, the more uncertain investors are about the value of the company. Investors have come to some consensus on what the company is worth when the stock trades with little price volatility.
9. Abnormal price movement or trading volume is a signal that there is a perceived significant change in the fundamentals of the company.
10. Market activity will usually predict significant fundamental change before the news is made public.
11. Trends occur when the stock moves along a sloped line on the stock chart. Like a vehicle in motion, trends have momentum that takes time to reverse.
12. Emotion is a factor in investor decision making if trends become curved rather than linear. The steeper the curve, the more emotion there is in the market. Emotion usually culminates with a significant move in the opposite direction.
13. Longer term trends have more force than short term trends.
14. The market is a mechanism for investors to cast their opinion. Trading volume demonstrates the strength of the opinion.
15. People lie, stock charts do not.
Understanding these things provides a basis for using stock charts to make investment decisions. It is not necessary to know the derivations of the many technical indicators. The stock chart is a picture of what the world thinks about the company, and a picture is worth a thousand words.
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Trends have pull backs. It is human nature to want to take profits, to worry about watching a stock go up and then back down without putting some money in the bank. As stocks go up they will tend to have a short counter trend down. This process recharges buyer confidence and shakes out short term players. The pull back also presents an opportunity for swing traders.
A swing trader looks to hold stocks for more than a day but not longer than a couple of weeks. Most often, the swing trader is in and out with 4 or 5 days. Playing pull backs is a strategy taught in the StockSchool Pro course. Look for stocks that are in strong trends, watch them for their pull back and then buy them when they start to show that the pull back is done. You can move in and out of stocks in strong trends this way and make a nice return. Best of all, unlike day traders, you don't have to sit in front of your computer all day. 30 minutes a day to beat the market.
I think the Nasdaq has good potential to start to trend higher after it broke its downward trend line two weeks ago. With that idea in mind I ran the Pull Back Plays strategy market scan on the Nasdaq market, limiting my search to stocks that traded at least 500 times on Friday. It revealed a couple of stocks that I think represent good swing trading opportunities.
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1. FILE
FILE went on a pretty good run higher over the past six weeks but has been drifting lower for about ten days until a break from the flag pattern on Friday. Volume increased a little bit support the counter trend break, I think this stock can go higher provided support at $34.75 can hold.
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2. OSIP
OSIP has been in an orderly upward trend since May and made a brief pull back this past week but managed to show some strength as the week closed out. It looks like the up trend can continue provided support at 34.85 can hold up.
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References
Get the Stockscore on any of over 20,000 North American stocks.
Background on the theories used by Stockscores.
Strategies that can help you find new opportunities.
Scan the market using extensive filter criteria.
Build a portfolio of stocks and view a slide show of their charts.
See which sectors are leading the market, and their components.
Disclaimer
This is not an investment advisory, and should not be used to make
investment decisions. Information in Stockscores Perspectives is often
opinionated and should be considered for information purposes only. No
stock exchange anywhere has approved or disapproved of the information
contained herein. There is no express or implied solicitation to buy or
sell securities. The writers and editors of Perspectives may have positions
in the stocks discussed above and may trade in the stocks mentioned. Don't
consider buying or selling any stock without conducting your own due diligence.
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