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Reading of Charts P. SAI PRATHYUSHA ( PONDICHERRY UNIVERSITY) 1ST M.COM BUSINESS FINANCE
Reading of Charts
In this section, an attempt is made to answer what is a stock chart?
What’s in a chart? What is the best way to approach stock chart reading?
Why even use charts? Little tips to read charts and practice will help you
all to find winning stocks, to see how to buy stocks and to spot the right
time to sell as charts are invaluable tool. Non-use of chart is equated to
the orthopedic doctor who does not use X-rays, or a cardiologist who
does not hook up patients to the ECG machine. Investors use charts for
understanding the true health of a stock and to spot timely buy and sell
signals. As a first step understand the following basic elements and
related concept of charts.
Price and Volume:
Mere change in price does not tell how serious the buying or selling of
stock is instead in order to understand the real story price and volume
should be understood together. For example; if a stock falls by 2% in
one day but the volume is far below average, it can be understood as a
sign that the larger investors are not selling aggressively and therefore
you can understand that investor should not sell the shares. If a stock
shows good gain but the number of shares traded us unusually low, then
it should be understood that it is just a created one or fake increase and
which will change soon.
Moving Average Lines:
It tracks the share price movement over a period of time as it will
indicate is a stock is supported actively or aggressively sold by the large
investors. Most of the fund managers use this average to step in to
protect and add to their positions. When a stock crashes below those
benchmarks in heavy volume, it means that the big players have sold the
stock in large number. Therefore it is always better to watch moving
averages and trading’s around that to find out the time to buy, sell or
decide not to do anything.
Relative Strength Line:
It compares the stock’s price performance with that of the market
represented by NIFTY or S&P 500. A sharp increase or rise in Relative
Strength Line informs that the stock is outperforming the general
market and down trend of Relative Strength Line shows the stock is
lagging the market. Relative Strength Line will be rising and
approaching or will be in new high ground when a stock is nearing a
break out situation.
Key Factor to look for in a chart:
1. Current Trend
Trend indicators are used to identify the overall direction of a stock’s
price, up or down. By analyzing the chart, we can determine the stock’s
overall trend, up or down and also to identify aspects of a trend like:
a. How long has a trend been in place?
Always there will be trend changes, as stocks do not stay in
uptrends or downtrends indefinitely. If a trend has continued
for a long period of time without any significant corrective
moves in the opposite direction, investors have to be alert for
signs of market reversal.
b. How does a stock tend to trade?
Some stocks more in slow and well defined trends whereas
other stocks tends to have more volatility on a regular basis
with price making sharp moves up or down. If an investor sees
high volatility, then he or she should not place too much
importance on the trading action in any single day.
c. Are there signs of a possible trend reversal?
Analyzing the stock price movement would reveal signs of
trend reversals. Momentum indicators will indicate a trend
running out of steam before the price of a stock peaks, giving
alert traders the opportunity to get out of a stock at a good
price before it reverses to the downside. Candlestick or other
charts patterns are used to identify major market reversals.
2. Price and Volume Action
Volume provides insights into how other participants perceive the
market. It indicates how many shares are bought and sold over a given
period of time. The more active the share, higher would be its volume.
Volume information on its own is not useful but when it is associated
with the preceding price and volume trend then volume information
becomes lot more meaningful. The information provided in the
following table would help to understand.
S. No Price Volume What is the expectation
1 Increases Increases Bullish
2 Increases Decreases Caution – weak bands buying
3 Decreases Increases Bearish
4 Decreases Decreases Caution – weak bands Selling
What is increase or decrease in volume?
Trader normally compare the volume of today with the average volume of the last
10 days and the general rule of thumb is:
High Volume = Today’s volume > last 10 days average volume
Low Volume = Today’s volume < last 10 days average volume
Average Volume = Today’s volume = last 10 days average volume
3. Support and Resistance
The support level is something that prevents the price from falling
further. It is the price point where the trader expects maximum demand
coming into the stock or index. It is always below the current market
price. There is a maximum likely hood that the price could fall till the
support, consolidate, absorb all the demand and then start to move
upwards. Support levels are price levels where investors identifying the
situation of fresh buying coming in to support a stock’s price and turn it
back to the upside.
It can be found from the above chart that:
1. The support level is in horizontal line which is below the
current market price.
2. The support level is at 435 and the current market price is at
442.5 and the current price and its corresponding price level
are shown in the chart.
This support level at 435 implies that there is a maximum likelihood of
excess demand to emerge, excess demand builds buying pressure and
the buying pressure tends to drag the price higher.
Resistance is something, which stops the price from rising further. It is
a point on the chart where traders expect maximum supply for the
stock/index. It is always above the current market price and this
resistance level often acts as a trigger to sell. The resistance levels
represent prices at which a stock has shown a tendency to fall in
attempting to move higher, turning back to the downside. Identifying
the support and resistance levels are helpful to trade within an
established trading range over a long period of time. For stocks whose
price breaks out beyond support and resistance levels give an indicators
of future price movement.
It can be found from the above chart that:
1. The resistance level is indicated in the horizontal line, which is
higher than the current market price.
2. The resistance level is at 215, the current market price is at
This resistance level implies that there is a likelihood of excess supply
and excess supply builds selling pressure and this selling pressure tends
to drag the prices lower.