Technical analysis

1. CHAPTER NO: 06
TECHNICAL ANALYSIS
By Mrs. Paras Hasnain Channar

2. Lecture Outline:
 Meaning of technical analysis
 Dow Theory
 Basic Principles of Technical Analysis
 Price Chart
 Trends and Trend Reversals
 Charts patterns
 Elliot Wave Theory
 Market Indicators

3. Meaning of Technical Analysis
 The basic premise of technical analysis is that
price move in trends or waves which may be
upwards or downwards. It is believed that the
present trends are influenced by the past
trends and that the projection of future trends
is possible by an analysis of past price trends.
A technical analyst, therefore, analyses the
price and volume movements of individual
securities as well as market index. Thus,
technical analysis is really a study of past and
historical price and volume movements so as
to predict the future stock price behaviour

4. Dow Theory
 Charles Dow formulated a hypothesis that the stock market
does not move on a random basis but it influenced by three
distinct cyclical trends that guide its direction, according to
Dow theory, the market has three movements and these
movements are simultaneous in nature. These movements
are the primary movements, secondary reactions and minor
movements.
 1) The "main movement", primary movement or major trend
may last from less than a year to several years. It can be
bullish or bearish. (2) The "medium swing", secondary
reaction or intermediate reaction may last from ten days to
three months and generally retraces from 33% to 66% of the
primary price change since the previous medium swing or
start of the main movement. (3) The "short swing" or minor
movement varies with opinion from hours to a month or more.
The three movements may be simultaneous, for instance, a
daily minor movement in a bearish secondary reaction in a
bullish primary movement.

5. Cont..

6. Primary trend and secondary
reaction
 A primary uptrend is when each
successive advance of the
primary trend peaks and troughs
higher than the one preceding it,
and can last from several months
to several years.
 Within a primary uptrend, several
secondary reactions may occur
against the trend, lasting for a few
days, weeks or even months, but
they don't necessarily change the
definition of the overall trend.
 In the stock market, for example,
prices may drop, even during a
powerful uptrend, for several
weeks at a time. This is known as

7. Cont..
 Daily, or minor,
movements last from a
few hours up to three
weeks;
 Secondary reactions
normally retrace one third
to two thirds of the
primary trend (since the
previous reaction) and
last from 3 weeks to 3
months; and
 Primary movements of the

8. Bullish Trends and Bearish
Trends
 Investors who believe that a stock price will increase over time are
said to be bullish. Investors who buy calls are bullish on the
underlying stock. That is, they believe that the stock price will rise
and have paid for the right to purchase the stock at a specific price
known as the exercise price or strike price. An investor who has
sold puts is also considered to be bullish on the stock. The seller of
a put has an obligation to buy the stock and, therefore, believes that
the stock price will rise.
 Investors who believe that a stock price will decline are said to be
bearish. The seller of a call has an obligation to sell the stock to the
purchaser at a specified price and believes that the stock price will
fall and is therefore bearish. The buyer of a put wants the price to
drop so that they may sell the stock at a higher price to the seller of
the put contract. They are also considered to be bearish on the
stock.

9. Bull Trend and Bearish Trend

10. Cont..

11. Assumptions
 First Hypothesis: No single individual, institution
and group of individuals can exert influence on the
major trend of the market. However , manipulation
is possible in the day to day or short term
movement in the market.
 Second Hypothesis: States that the daily prices
reflect the aggregate judgment and emotion of all
stock market participants.
 Third Hypothesis: States that the trend of market
and has no forecasting value as regards the
duration or the likely price targets for the peck or
the button of the bull and bear markets.

12. Basic Principles of technical
Analysis
 The market value of security is related to
demand and supply factors operating in the
market.
 There are both rational and irrational factors
which surround the supply the demand fact of
the security.
 Security prices behave in a manner that there
movement is continuous in a particular
direction for some length of time.
 Trend in stock prices have been seen to
change when where is a shift in the demand
and supply factors.

13. Cont.
 The shifts in demand and supply can be
detected through charts prepare specially to
show market actions.
 Patterns which are projected by charts record
price movements and these recorded patterns
are used by analyst to make forecast about the
movement of price in future

14. Price Charts
 The price chart is the basic tool used by the technical
analyst to study the share price movement. The prices
are plotted on XY graph where the X axis represents
the trading days and the Y axis denotes the prices.
 Four prices are very important, these are the highest
prices, lowest price, opening price, and closing price,
among these four prices the closing price is very
important because the closing price is used to analyze
the share prices in market.
 Three types of price charts are currently used by
technical analyst.
 Line Chart
 Bar Chart
 Japanese Candlestick Chart

15. Line Chart
 A line chart or line graph is
a type of chart which displays
information as a series of
data points called 'markers'
connected by straight
line segments. It is a basic
type of chart common in
many fields. It is similar to
a scatter plot except that the
measurement points are
ordered (typically by their x-
axis value) and joined with
straight line segments. A line
chart is often used to
visualize a trend in data over

16. Bar Chart
 A bar chart or bar
graph is a chart that
presents grouped
data with rectangular bar
s
with lengths proportional
to the values that they
represent. The bars can
be plotted vertically or
horizontally. A vertical
bar chart is sometimes
called a column bar
chart.

17. Japanese Candlestick Chart
 A candlestick chart is a style
of financial chart used to
describe price movements of
a security, derivative, or
currency. Each "candlestick"
typically shows one day; so for
example a one-month chart
may show the 20 trading days
as 20 "candlesticks".
 It is like a combination of line-
chart and a bar-chart: each bar
represents all four important
pieces of information for that
day: the open, the close, the
high and the low.
 Candlestick charts are most
often used in technical
analysis of equity and currency
price patterns. They appear
superficially similar to box plots,

18. Cont..
 There are mainly three types of
candlesticks: white, the black,
and the doji or neutral. A white
candlestick represent a situation
where the closing price of the
day is higher than the opening
price (bullish trend). A black
candlestick is used when the
closing price of the day is lower
than opening price (bearish
trend). A doji candlestick is the
one where the opening price
and closing price of the day are
the same.

19. Trends and Trend Reversals
 Trend is the direction of movement of share prices in the
market. When the prices move upwards, it is a rising trend or
uptrend. When the prices move downwards, we have a falling
trend or downtrend. The result of zig-zag movement giving
rise to alternating tops and bottoms. The formation of higher
bottoms and higher lower indicates a rising trend, while the
formation of lower tops and lower bottoms indicates a falling
trends.
 The change in the direction of trend is referred to as trend
reversal.
 A technical analysis price to identify the trend reversals at in
early stage so as to trade profitability in the market. When the
trend reverses and begin to rise the technical analyst would
recommend purchase of the share. When trend becomes to
fall sale is indicated during the flat trend, the investor should
stay away from the market.

20. Trends and Trend Reversals
 A reversal pattern signals that a
prior trend will reverse upon
completion of the pattern. A
continuation pattern, on the other
hand, signals that a trend will
continue once the pattern is
complete. These patterns can be
found over charts of any timeframe.
 Reversal Pattern: A change in the
direction of a price trend. On a
price chart, reversals undergo a
recognizable change in the price
structure. An uptrend, which is a
series of higher highs and higher
lows, reverses into a downtrend by
changing to a series of lower highs
and lower lows. A downtrend,
which is a series of lower highs
and lower lows, reverses into
an uptrend by changing to a series

21. Charts Patterns
 A chart pattern is a distinct formation on a stock chart
that creates a trading signal, or a sign of future price
movements. Chartists use these patterns to identify
current trends and trend reversals and to trigger buy
and sell signals.
 When the price bar charts of several days are drawn
close together, certain pattern emerge. These patterns
are used by the technical analyst to identify trend
reversal and predict the future movement of prices.
The chart patters may be classified as:
 support and resistance patterns,
 Reversal and continuation patterns

22. Support and Resistance
 Support and resistance are price at which the
downtrend and uptrend in price movement is
reversed.
 Support occurs when price is falling but bounce
back or reverses direction every time it reaches a
particular level.
 When all these low points are connected by a
horizontal line, it form the support line.
 In other words, the support level is the price level
at which sufficient buying pressure is exerted to
halt the fall in prices.

23. Resistance
 Resistance occurs when
the share price move
upward. The price may
bounce back every time it
reaches a particular level.
 A horizontal line join tops
forms the resistance level.
 Thus, the resistance level
is the price level where
sufficient selling pressure
is exerted to halt the
ongoing rise in the price of
a share.

24. Reversal
 Price movement exhibit uptrends and
downtrends, the trends reverse direction after
a period of time. These reversals can be
identified with the help of certain charts
formations that typically occur during these
trends reversal.
 Head and shoulder formation:
 Inverse Head and shoulder formation

25. Head and shoulder formation:
 This trend usually occur at the end of a long uptrend. The
formation exhibits a hump or top followed by a still higher top
or peak and than another hump or lower top. This formation
resembles the head and two shoulders of a man and hence
the name head and shoulder formation.
 The first hump, known as the left shoulder, is formed when
the prices reach the top under a strong buying impulse. Then
trading volume become less and there is a short downward
swing. This is followed by another high volume advance,
which takes the price to a higher top known as the head. This
is followed by another reaction on less volume which takes
the price down to a bottom near to the earlier downswing.
The third rally now occurs taking the price to a height less
than the head but comparable to the left shoulder. This rally
result in the formation of the right shoulder.

26. Cont:
 The horizontal line
joining the bottoms of
this formation is known
as the neckline.
 The head and shoulder
formation usually occurs
at the end of a bull
phase and is indicative
of a reversal of trend.
After breaking the
neckline, the price is
expected to decline
sharply

27. Inverse Head and Shoulder
Formation
 The inverse head-and-
shoulders pattern is the
exact opposite of the
head-and-shoulders top,
as it signals that the
security is set to make an
upward move. Often
coming at the end of a
downtrend, the inverse
head and shoulders is
considered to be a
reversal pattern, as the
security typically heads
higher after the completion
of the pattern.

28. Continuation
 A technical analysis pattern that suggests a trend is
exhibiting a temporary diversion in behavior, and will
eventually continue on its existing trend.
 Continuation patterns occur mid-trend and are a
pause in the price action of varying durations. When
these patterns occur, it can indicate the trend is likely
to resume after the pattern completes. A pattern is
considered complete when the pattern has formed
(can be drawn) and then "breaks out" of that pattern,
potentially continuing on with the former trend.
Continuation patterns can be seen on all time frames,
from a tick chart to a daily or weekly chart. Common
continuation patterns
include triangles, flags, pennants and rectangles.

29. Types
 Triangles: Triangles are a common pattern and
can simply be defined as a converging of the price
range, with higher lows and lower highs. The
converging price action creates a triangle
formation. There are three basic types of
triangles: symmetric, ascending and descending.
For trading purposes, the three types of triangles
can be traded similarly.
 Triangles vary in their duration, but will have at
least two swing highs in price and two swings
lows in price. As price continue to converge, it will
eventually reach the apex of the triangle; the
closer to the apex price gets, the tighter and
tighter price action becomes, thus making a
breakout more immanent.

30.  Symmetric - A
symmetric triangle
can be simply
defined as a
downward
sloping, upper
bound and an
upward sloping,
lower bound in
price

31.  Ascending - An
ascending triangle
can be defined as
a horizontal upper
bound and
upward sloping
lower bound.

32.  Descending - A
descending triangle
can be defined as a
downward sloping
upper bound and
horizontal lower
bound.


33.  Flags are a pause in the trend,
where the price becomes
confined in a small price range
between parallel lines. This
pause in the middle of a trend
gives the pattern a flag like
appearance. Flags are
generally short in duration,
lasting several bars, and do
not contain price swings back
and forth as a trading range or
trend channel would. Flags
may be parallel or upward or
downward sloping, as shown
in Figure 4.

34.  Pennants are similar to a
triangle, yet smaller;
pennants are generally
created by only several
bars. While not a hard and
fast rule, if a pennant
contains more than 20
price bars it can be
considered a triangle. The
pattern is created as prices
converge, covering a
relatively small price range
mid-trend; this gives the
pattern a pennant
appearance.

35. “THE END”