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Candlesticks
- Candlesticks represent the open, high, low, and close of the bar
price in a more visual way then the typical price bar. The relationship
between the open and close is shown visually by adding width to the
typical price bar. The name "candlesticks" comes from the resulting
chart which looks like a series of candles with wicks.
Candlesticks appear with a solid or black "body" when the close is
less than the open. Conversely, candlesticks have a hollow or white body
when the close is greater than the open.
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Moving Averages
- A moving average is an average that changes every time a new data
point is recorded. In the case of stock prices, every time a new closing
price occurs, the average is recalculated using the most recent close
and removing the oldest closing price.
The more number of periods in a moving average, the slower it
changes.
Moving averages are a lagging indicator of market activity. As such,
they are late to announce the beginning and the end of a trend, but
great for keeping you on the right side of the market in a trending
market.
There are different types of moving averages: simple, exponential,
and weighted. The most important type to consider in a trending market
is the simple moving average. Why? Because the simple moving average is
what institutions and money managers use and they control most of the
money in the market.
One of the best ways to use moving averages is as support and
resistance. In a uptrending market, simple moving averages act as
support. In a downtrend market, simple moving averages act as
resistance.
In this case, the 50 and 200 period moving averages are the ones to
use.
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Gaps
- Gaps are places on a stock chart where there is an unfilled price
range between one bar's high and the next bar's low or between one bar's
low and the next bar's high.
Gaps are often news driven. If that is the case, the gap is usually
filled and filled quickly.
On the other hand, if something has fundamentally changed about the
company, gaps can be a sign that the stock is ready to take off in one
direction or the other.
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Support and Resistance
- Support is a price level where falling prices can be expected to be
halted or even reversed based on past history.
Resistance is a price level where rising prices can be expected to be
halted or even reversed based on past history.
How do you determine where support and resistance are? Look at the
chart and see at what price the stock has been stopped or turned around
before. The more time included in the chart the easier to pick out long
term support and resistance. The more often support or resistance levels
have been tested, the "stronger" those levels are.
Support and resistance can be along a horizontal axis or along a
diagonal plane. Support or resistance along a diagonal plane is referred
to as a trendline.
Once broken, support often becomes resistance and vice versa. (Very
important!!)
Oftentimes when a stock is trendless and the players can't seem to
make up their minds one way or the other, a stock will bounce between
obvious support and resistance levels for quite some time. When the
stock breaks out to the up or downside, the stock will often come back
and test that previous level of support or resistance. Hence, the
statement: support becomes resistance and resistance becomes support.
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Retracements
- Many times after a stock has run up significantly, or declined
significantly, the stock price will reverse before continuing in the
initial direction. The reversal oftentimes retraces ~50% of the initial
move. For example, if a stock goes from $50 to $60 then starts heading
down, the price level that will often provide support is ~$55. The same
concept applies in time. In the above example, if the stock went from
$50 to $60 in 18 days then starts heading down, the price and time level
that will often provide support is ~$55, ~9 days from the price high, or
~27 days from when the price was at $50.
This idea allows for entry into a moving stock after missing an
initial move.
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Time Frames
- Using multiple time frames helps confirm your analysis in one time
frame versus another time frame. For instance, if you are considering
selling a stock because the daily chart shows it in a downtrend, then
you would look at the weekly chart to confirm the downtrend. Or look at
the weekly chart for support and resistance levels. Or you would like to
buy a stock that is coming into a level of support on the monthly charts
and you would like to use the weekly or daily charts to signal a buy.
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Stochastics
- The stochastic oscillator indicates overbought and oversold areas in
the market, based upon price momentum. The theory behind the indicator
is that prices tend to close near the upper end of a trading range
during an uptrend. As the trend matures, prices tend to close farther
away from the highs. The reverse is true for a falling market.
The stochastic oscillator is made up of two moving lines, %K and %D,
that range in value from 0 to 100%. The %K line moves quicker and is
usually a solid line. The %D is a slower version of the %K line and is
usually a dashed line.
When using the %K and the %D together, crossovers of the two generate
valid signals in the overbought or oversold region and should be used to
indicate rising and declining markets. The overbought region is where
the %K and %D are greater than 80, the oversold region is where the %K
and %D is less than 20.
Another use of the stochastic oscillator is when the %D divergences
from the price . This is an indication of a possible trend reversal.
This is my favorite use of the stochastic oscillator. If price makes a
new high and the stochastic oscillator is in the over bought region and
does not exceed the previous stochastic high, then that is a sell
signal. The opposite is true for a buying situation.
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Highs and Lows
- The relationship between highs and lows provides confirmation of a
trend and insights into trend changes.
A stock is moving up when it makes higher highs and higher lows.
The reverse is true for a stock going down.
A possible trend reversal occurs when a stock trades above or below a
previous high or low.
A high is
defined as a price bar preceded and followed by a lower high.
A low is
defined as a price bar preceded and followed by a higher low.
It is possible, but also rare, for a
single price bar to have a high and low that meets the previous requirements.
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Divergences
- When a stock makes a new high or new low that is not confirmed by
some other measure, then you have a divergence. Some other measure can
be volume, stochastic indicator, a major stock index, or any number of
different metrics.
Divergences are most useful when a stock has been trending either up
or down. Divergences often signal the end of a trend and a reversal of
prices. Almost all major trends end with some kind of divergence.
Two types of divergences occur, either positive or negative.
A positive divergence occurs when price makes a new low and the
indicator makes a higher low. A negative divergence occurs when price
makes a new high and the indicator makes a lower high.
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Volume
- Volume is a good measure of interest in the current direction of a
stock.
A stock moving up with increasing volume is bullish. A stock moving
up on decreasing volume indicates not a lot of faith in the current
trend and you shold be watchful of any signs of a reversal.
A stock moving down with increasing volume is bearish. A stock moving
down on decreasing volume indicates not a lot of interest in the current
downtrend.
An abnormally large increase in volume with a price breakout at a
support or resistance level gives some validity to the breakout. A
breakout on light volume should be considered suspect and possibly a
bull or bear trap.
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Close vs. Open
- The relationship between the open and the close of a stock is a much
better predictor of short term prices then the relationship between
closing prices.
A stock may close up for the day, but down relative to it's opening
price, and be considered bearish. The opposite for a down close.
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RISK
- As unbelievable as these monthly candlestick charts may seem, these
charts represent why it is so important to limit your losses. Stocks do
go from above $100.00 to less than $1.00.
If you believe that you have a winning system for picking and trading
profitable stocks, then taking a small loss on a trade means you are one
trade closer to a profitable trade.
