Technical analysis is good to give you a sense of what will be the next trend of stock price. But it is never good enough because Mr. Market is always and often irrational. I had learnt to use automated trading system tools more than 9 years ago and I didn’t fare well despite told by our trainer to follow the trading rule diligently and system leveraging. Therefore, it subsequently led us to explore a more safer and conservative approach in growth stock investing. This article post is just an introduction of Technical Analysis. But it does not imply that you will need to know it before you start your value investing using fundamental analysis.
What Is Technical Analysis (TA)?
Technical analysis (TA) focuses on the study of price charts and leverage on the use of specific indicators to identify a good entry or exit point in the future price movements. Apart from price charts, TA focuses exclusively to study its trading history as well. Without considering the fundamentals of a company, technical analysis can be used to derive a likely direction in the future price movements assuming that:
1. Stock price is determined by Supply and Demand.
2. Price movements are influenced by personal perceptions and emotions.
3. Trending of stock price
Stock traders and analysts often use a variety of leading and lagging indicators, which precede or follow a price movement, respectively. There are many technical analysis indicators but I just list a few commonly used indicators in the below section. The objective of this section is not to give you an in-depth explanation but some introductory explanation. Frankly speaking, I am not an expert In Technical Analysis as well.
What Are The Top 5 Technical Analysis Indicators?
This is one of the simplest technical indicators. They are important for identifying and confirming trend direction. They can help predict levels of support and resistance and single out important chart movements and significant price points. I take reference from trend lines of stock chart too after fundamental analysis.
Trend lines have the support and resistance points, which are practically the levels that determine the supply (resistance) and demand (support) for stocks. At support levels, the demand is higher than supply, thus preventing the stock price to decline further. At resistance levels, supply is higher than demand, thus preventing the stock price to rise further. Therefore, as the price declines towards the support level, more buyers will enter the market to buy the company’s stock. Once the price reaches the support level, the demand will outweigh supply, thus preventing a further decline in the stock price. Likewise, as the price rises towards the resistance level, more sellers will enter the market to sell the stock. Once the price reaches the resistance level, the supply will outweigh demand, thus preventing a further rise in the stock price.
If you have read my earlier 15 April 2018 on STI ETF Analysis article, you will see something like the chart below. I marked the level of resistance and support of STI chart to illustrate the points made in the above
The Moving Average Convergence / Divergence (MACD) Indicator
This trend-following, momentum indicator shows the relationship between two moving averages. You may need to know how to identify Signal Line Crossovers, Centerline Crossovers, and positive and negative divergences to spot changes in trend direction, strength and momentum of a market
The Moving Average
Moving Average helps to gauge the direction of the current trend of a market. Discover how to track and identify trends, find potential support and resistance levels, and recognize possible changes in momentum. There could be 20 to 100 days moving average for a medium term momentum.
Relative Strength Index (RSI)
The RSI is a momentum oscillator that measures the strength and speed of a market’s price movement by comparing current price to past performance. It can be used to find overbought and oversold areas, support and resistance levels, and potential entry and exit signals.
Fibonacci retracements can help traders identify significant price points and predict levels of support and resistance. Learn how this tool can be used to determine how much a market might retrace before resuming its trend.
Example Use of Technical Analysis Tools
Stock traders also use technical tools such as candle stick patterns to identify the exact point of entering the market to buy a stock and the exit point of selling a stock. To give you a favour of what does this means, let’s look at the below different examples of the use of Candle Stick Patterns. Basically, Morning Star Doji is to anticipate a upcoming bullish reversal movement while Evening Star Doji is to anticipate a bearish reversal.
Example 1 – Candle Stick Pattern (Morning Star Doji)
Example 2 – Candle Stick Pattern (Evening Star Doji)
Technical Analysts and value investors are from two different camps. You may be wondering why I touch on to introduce Technical Analysis if I am a believer in value investing. The reason is it has the best of both worlds. I focus on value investing first by doing my due diligence using fundamental analysis and then followed by some basic use of technical indicators such as trend lines. Being Kiasi is a virtue. Hope my ending conclusion is not too confusing if you are new in investing.