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Technical analysis 101 - part 10/11
More from Chip Anderson
TECHNICAL ANALYSIS 101 - PART 10
This is the tenth part of a series of articles about Technical Analysis from a new course we're developing. If you are new to charting, these articles will give you the "big picture" behind the charts on our site. if you are an "old hand", these articles will help ensure you haven't "strayed too far" from the basics. Enjoy!
Volume Confirmation
In an uptrend, volume should expand as the prices move higher and contract as the prices pull back. As long as this pattern continues, volume is confirming the uptrend. The opposite is true for downtrends. Volume should expand as prices decline and contract during rallies to confirm a downtrend.
Negative divergences can occur if new price highs in an uptrend take place on declining volume. This type of volume activity is an indication of diminishing buying pressure. If the volume also begins to pick up on price pull backs, prices may begin consolidating or reversing into a downtrend.
The same concept is true for positive divergences in downtrends. If volume begins to contract on new price lows but expands during rallies, prices may begin consolidating or reversing into an uptrend.
TECHNICAL ANALYSIS 101 - PART 11
Here's an article that first appeared in 2006 about using the ADX indicator. With lots of stocks starting to trend upwards now, I thought it was a good time to revisit this topic. Enjoy! - Chip
Trend analysis is one of the most important technical analysis skills anyone can have. Knowing if a stock is trending or oscillating can have a big impact on what kind of approach you take to trading it. Stocks that are in a strong uptrend should be bought and held until one or more momentum oscillators show signs of weakness (a moving average cross-over for example). Stocks that are oscillating sideways within a trading range should be studied using oscillating indicators like Stochastics for entry and exit points.
So, how do you tell if a stock is trending or oscillating? And how do you tell if the trend is strong or weak? One way is to use the old Mark 1 Eyeball- but unfortunately that isn't always as accurate and impartial as one might like. A more objective technique is to use the ADX indicator.
The ADX indicator was invented by Welles Wilder, the same guy who created the RSI. It is part of an indicator "system" whoses official name is "Wilder's DMI". Wilder's DMI consists of three lines - the green +DI line, the red -DI line and the thick black ADX line. Check out this example that uses the Dow Industrials:
(Click the chart to see a live version.)
I've added vertical blue lines whereever the green +DI line crossed the red -DI line in a significant way (I ignored some whipsaw-like crossovers for clarity). When +DI is above -DI, the chart is in an uptrend. When -DI is on top, the chart is in a downtrend. The "strength" of the trend (up or down), is indicated by the ADX line.
Working through the chart from left to right, at first the Dow was in an "uptrend" (+DI is above -DI) and it was a "strong uptrend" because the ADX line rose to a relatively high level. Next, in early April, came a short period of oscillation that saw the ADX fall. After that, in late April, another uptrend developed but a couple of down days near the beginning of May prevented the ADX from indicating that the uptrend was particularly "strong".
After setting a high in the middle of May, the Dow entered a strong downtrend for a couple of weeks. Notice that the ADX line continued moving higher during this downtrend - don't let that confuse you! The level of the ADX indicates the strength of the trend, not the direction. In this case, this downtrend is the strongest trend on the chart and therefore has the highest ADX levels.
The right side of the chart shows that we are currently in another uptrend however the "strength" of that uptrend is very questionable. Notice how the ADX line was at a very low level in mid-August and has only begun to move higher recently. The ADX is telling alert ChartWatchers to pay close attention for signs the Dow's current uptrend is running out of momentum and react accordingly.
The calculation of the ADX is complex and beyond the scope of this article however, we have recently gotten a very detailed new book about the ADX into our bookstore that can tell you everything (and I mean everything) you ever wanted to know about this important indicator. Although it is pricey, serious ChartWatchers will find that "ADXcellence" by Dr. Charles Schaap is well worth the cost.
Technical analysis 101 - part 11
We're starting to talk about patterns on this series written by Chip A.
TECHNICAL ANALYSIS 101 - PART 11
This is the next part of a series of articles about Technical Analysis from a new course we're developing. If you are new to charting, these articles will give you the "big picture" behind the charts on our site. if you are an "old hand", these articles will help ensure you haven't "strayed too far" from the basics. Enjoy!
Price Patterns
Price Patterns result when the market is not in agreement on the value of a stock. Essentially, they are the “visual remains” of a big battle between Bulls and Bears. In many ways, they are like weather patterns that you see on the nightly news. Often today’s weather can be forecast by looking at yesterday’s atmospheric data but occasionally (frequently?) the forecast is wrong. Similarly, chart patterns often but not always indicate future price movements.
At their core, most price patterns are combinations of several trendlines. The simplest pattern is the Rectangle Pattern.
In a rectangle pattern, price moves between two horizontal lines of support and resistance. In order to qualify as a rectangle pattern, both support and resistance lines must be touched at least twice. Rectangle patterns have a narrow or wide price range and last from days to months. The pattern ends once the line of support or resistance is broken.
A price break through resistance may be anticipated if volume expands when prices rise and contracts when prices fall within the rectangle pattern. An imminent price break above resistance may exist if prices don’t fall to the support line before rising again.
A price break through support may be anticipated if volume expands when prices fall and contracts when prices rise within the rectangle pattern. An imminent price break below support may exist if prices don’t rise to the resistance line before falling again.
As illustrated above, as soon as the pattern breaks down, the top (or bottom) of the rectangle changes into a support (or resistance) line for the stock.
Rectangle patterns clearly show the battle between bulls and bears with the bulls repeatedly buying when prices hit the support level and bears repeatedly selling when prices hit the resistance level. At some point, one of those groups will “win” and prices will breakout of the pattern. The longer prices have been in the pattern then the larger the “breakout move” will be and the more significant the new support/resistance line becomes.
Another common price pattern is the Triangle Pattern. The triangle pattern is very similar to the rectangle, except that the upper and/or lower trendlines that define the pattern are sloped instead of horizontal.
Go back to the rectangle diagram above and imagine that bearish sentiment about the stock was growing over time. What would that look like? Well, in that case, more and more sellers would not wait for prices to return to the level of the red resistance line before selling. Instead, they would sell sooner. That would cause the red resistance line to become a downward trendline forming a Descending Triangle Pattern.
Alternately, what if buyers started getting impatient and started buying before the stock got back to its green support line? Then a Rising Triangle Pattern would form.
Technical analysis 101 - part 12
Last from Chip
TECHNICAL ANALYSIS 101 - PART 12
This is the next part of a series of articles about Technical Analysis from a new course we're developing. If you are new to charting, these articles will give you the "big picture" behind the charts on our site. if you are an "old hand", these articles will help ensure you haven't "strayed too far" from the basics. Enjoy!
Volume Confirmation of Price Patterns
When identifying potential price patterns on a chart, it is crucial to try and verify that the market psychology behind the price pattern is really happening at that point on the chart. One of the best ways to do that is to use volume to confirm things.
In the case of a rectangle pattern, volume should be decreasing while the rectangle is forming. There may be volume spikes whenever prices get near the top or bottom of the pattern, but in general, as a rectangle pattern continues to develop, volume should decrease. Volume will probably spike up heavily immediately after the breakout as people realize that the support or resistance line has been broken.
Triangle patterns should have a similar volume pattern - decreasing volume while the triangle is forming with a sharp increase in volume once a breakout is achieved.
Again, the diagrams above are idealized - the real-world is much messier. Consider this example:
Notice that ARST didn't have a smooth decrease in volume but instead had several "mini-spikes" that corresponded to each change in direction of the "coil." The key however is that each mini-spike was smaller than the previous one (with the exception of July 21st, but that was early in the coil's formation). Once that downward volume trend was well established, a big spike above that trendline would signal the breakout - just like on September 1st.
Consolidation / Continuation Patterns vs. Reversal Patterns
So far, the two price patterns we've looked at - Rectangles and Triangles - are examples of "Consolidation Patterns" also known as "Continuation Patterns." They are called that because, in general, after the patter completes prices will usually continue whatever trend they were in prior to the pattern forming. In order words, if prices were in an uptrend prior to a rectangle pattern forming, prices will usually resume the uptrend once the rectangle pattern finishes. Basically, consolidation patterns are places where the bulls and the bears have another short-term "argument" about the stock, but it is a half-hearted one. The "bigger picture" situation doesn't really change.
Next, we are going to start looking at "Reversal Patterns." These are where the fireworks occur. If consolidation patterns are skirmishes, reversal patterns are the big battles. When reversal patterns start to appear, the current trend is in real danger and lots of people start to pay attention.
Next time, we'll look at the granddaddy of all reversal patterns - the Head and Shoulders revers
Technical analysis 101 - part 13
TECHNICAL ANALYSIS 101 - PART 13
This is the next part of a series of articles about Technical Analysis from a new course we're developing. If you are new to charting, these articles will give you the "big picture" behind the charts on our site. if you are an "old hand", these articles will help ensure you haven't "strayed too far" from the basics. Enjoy!
The Infamous Head and Shoulders Reversal Pattern
One of the most common reversal patterns is the Head and Shoulders pattern. This pattern forms in an uptrend and its completion marks a trend reversal. The pattern contains three successive peaks with the middle peak (head) being the highest and the two outside peaks (shoulders) being lower. The reaction lows of each peak can be connected to form line of support called a neckline. The top reversal pattern is completed when price breaks below the neckline.
While it is preferable that the left and right shoulders be symmetrical, it is not an absolute requirement. They can be different widths as well as different heights.
It's important to realize that up until the point where prices move back below the level of the left shoulder, things look like a normal, ongoing uptrend. It is only when the left shoulder's price level is violated that the bulls become fearful and the bears start to smell blood. The right shoulder forms as the bulls try to reestablish the uptrend and then fail - usually because many of the more skittish investors will take profits at that point.
As the Head and Shoulders top reversal pattern unfolds, volume plays an important role in confirmation. Buying volume (volume on up days) will slowly translate into selling volume (volume on down days) as the pattern develops. This is seen when volume that previously expanded on rallies begins to expand on declines and contract on rallies.
The Head and Shoulders bottom reversal pattern is just the reverse of the top reversal pattern with volume acting as a confirmation.
As with the Head and Shoulders top reversal pattern, volume action is helpful in confirming the trend reversal. Volume that was previously expanding on declines begins to expand on rallies and contract on declines as the trend reversal develops.
Traders begin noticing lighter selling volume on the declines and heavier buying volume on the rallies. This kind of price and volume action is quickly noticed by the market which results in additional buying volume supporting the trend reversal.
A couple of other comments about this pattern:
Other Reversal Patterns
Many of the technical analysis books out there will go on to talk about several other kinds of reversal patterns - the rounding bottom, the V-reversal, double tops, triple bottoms, and others. I'm going to tell you a secret - most of those are just variations of the Head and Shoulders reversal which didn't form "perfectly" for some reason. For example, the triple top is a Head and Shoulders pattern where the head didn't go above the left shoulder.
The key point here is this - don't worry about what type of reversal is occurring. Knowing that it's a triple top instead of a H&S top won't make you more money. Focus on the fact that the chart is telling you that the fear/greed ratio is changing and react accordingly.
Next time, we'll look at the question "how much is too much?"
Technical analysis 101 - part 14
Fibonacci Lines
How high is "too high?" How low is "too low?" Think back to any time that you've owned a stock and think about when you started to get worried about it's performance. At what point did "your gut" start to tell you that you needed to sell? Chances are your gut started talking to you after the stock had moved up (or down) by 38.2%.
Wow, that's a really specific number - "38.2." It seems kind of arbitrary also. There's no way that could be correct, right? I mean, without knowing anything about the stock you were trading, or the amount of money involved, or the overall market conditions, or anything else - how can we stand here and tell you that you got nervous right at 38.2%?
The reason is because 38.2 appears to be programmed into the human psyche (as well as many other parts of nature). 38.2 is one of a set of numbers called "Fibonacci Percentages." They are derived from the "Fibonacci Sequence" which is a list of numbers where each number equals the sum of the previous two. i.e.,
1, 1, 2, 3, 5, 8, 13, 21, 34, 55, 89, 144, 233, 377, 610 etc.
The branching in trees, arrangement of leaves on a stem, the flowering of artichoke, an uncurling fern and the arrangement of a pine cone - all these things exhibit Fibonacci characteristics . In addition, if you take any large Fibonacci number and divide it by the previous number, you'll get something very close to 1.6180339887 (the larger the number, the closer you'll get). Now, 1.6180... has been known for centuries as "The Golden Ratio" - mostly because we humans tend to prefer things - art, sculptor, architecture, etc. - that have proportions that equal the Golden Ratio.
Getting back to stock charting, R.N. Elliott made the first well-known connection between price movements and the Golden Ratio. He noted that many reversals occurred around 61.8% or its compliment 38.2% (i.e., 100 - 61.8). Combined with 50% and 100%, they make up the standard set of Fibonacci Percentages.
Regardless of how the numbers were arrived at, chart analysts have observed that prices often will reverse after moving up (or down) by one of those percentages. Basically, those percentages are where something tells many people that it is time to take action - and thus prices reverse. Strange but true.
Unfortunately many people have gone on to claim that Fibonacci lines (and their variants) have almost "magical powers" to predict price movements. Like most Technical Analysis tools, we think Fibonacci Lines are useful forecasting tools - but not magical.
Hello all.
I started to post trades based on this method and other techniques inside the Advanced Elite section.
See you there!
Seems this picture summarizes a lot of things.
Tomorrow or when market moves to choppy we will talk about a different set for stochastic.
Sometimes you get tired of wait turning MACD providing a signal or confirmation.
Because we follow the overall idea of trends into trends. This is small trends (lower TF) are inserted on bigger trends (higher TF).
That's why we look for dailies to confirm hourlies. Hourlies to confirm minutes, etc.
Stochastic is more sensitive than MACD. Just because stoch does not have double smooth as macd.
I commented several times on the past about this method. But this is a new approach.
Some years back I was reading an article about the snap method by Richard Lee. Luckily I can make some contact with him when he was working as analyst for FXMC. He also was teacher on a trading course.
Richard approach was interesting: Trade establishing the longer term trend in the MACD, using the stochastic as a reference. Ultimately, a longer, smoother stochastic D% line is the best way to confirm the directional bias with the MACD line.
Original method establish the trend with stochastic D% line turning upward or downward first and then the trader looks for a confirming rise/crossover in the MACD, establishing the longer term trend.
I'm going to change this approach. And next attach will example how.
As you can see. Most the time on higher TF MACD will follow Stoch cross some bars after.
We want to save that time! and be ready for the pattern.
So. When stochastic D% line turning upward or downward will presumme MACD will follow soon.
It' s important to watch stochastic D% line turning upward or downward.
If turning upward move to lower TF and move together with MACD.
If turning downward move to lower TF and move together with MACD.
This is no the only combination. You also can trade the original method. Or just inverse the signal using stoch to reenter following the established trend.