Investing 101
Technical
Analysis
|
|
Investing 101 |
Technical
analysis is the polar opposite of
fundamental analysis, which is the basis of every method explored so far in
this tutorial.
Technical analysts, or technicians, select stocks by analyzing statistics
generated by past market activity, prices and volumes. Sometimes also known as
chartists,
technical analysts look at the past charts of prices and different
indicators to
make inferences about the future movement of a
stock's price.
"Chart analysis (also called technical analysis) is the study of market action, using price charts, to forecast future price direction. The cornerstone of the technical philosophy is the belief that all factors that influence market price - fundamental information, political events, natural disasters, and psychological factors - are quickly discounted in market activity. In other words, the impact of these external factors will quickly show up in some form of price movement, either up or down."The most important assumptions that all technical analysis techniques are based upon can be summarized as follows:
What Technical Analysts Don't Care About
Pure technical analysts couldn't care less about the elusive
intrinsic value
of a company or any other factors that preoccupy fundamental analysts, such as
management,
business models or competition. Technicians are concerned with the trends
implied by past data, charts and indicators, and they often make a lot of money
trading companies they know almost nothing about.
Is Technical Analysis a Long-Term Strategy?
The answer to the question above is no. Definitely not. Technical analysts are
usually very active in their trades, holding positions for short periods in
order to capitalize on fluctuations in price, whether up or down. A technical
analyst may go short
or long on a stock,
depending on what direction the data is saying the price will move.
If a stock does not perform the way a technician thought it would, he or she
wastes little time deciding whether to exit his or her position, using
stop-loss
orders to mitigate losses. Whereas a
value investor
must exercise a lot of patience and wait for the market to correct its
undervaluation
of a company, the technician must possess a great deal of trading agility and
know how to get in and out of positions with speed.
Support and Resistance
Among the most important concepts in technical analysis are
support and
resistance.
These are the levels at which technicians expect a stock to start increasing
after a decline (support), or to begin decreasing after an increase
(resistance). Trades are generally entered around these important levels because
they indicate the way in which a stock will bounce. They will enter into a long
position if they feel a support level has been hit, or enter into a short
position if they feel a resistance level has been struck.
Here is an illustration of where technicians might set support and resistance
levels:
 |
Cup and Handle
This is a bullish pattern that looks like a pot with a handle. The stock price is expected to break out at the end of the handle, so by buying here, investors are able to make a lot of money. Another reason for this pattern's popularity is how easy it is to spot. Here is an example of a great cup and handle pattern:
Head and Shoulders
This pattern resembles, well, a head with two shoulders. Technicians usually consider this a bearish pattern. Below is a great example of this particular chart pattern:
Remember, these two examples are mere glimpses into the vast world of technical analysis and its techniques. We couldn't have a complete stock picking tutorial without mentioning technical analysis, but this brief intro barely scratches the surface.
Conclusion
Technical analysis is unlike any other stock-picking strategy - it has
its own set of concepts, and it relies on a completely different set of criteria
than any strategy employing fundamental analysis. However, regardless of its
analytical approach, mastering technical analysis requires discipline and savvy,
just like any other strategy.
