This document provides an overview of technical analysis. It begins by explaining the philosophy behind technical analysis, which is that all known information is reflected in market prices and that prices tend to move in trends and repeat patterns due to human psychology. It then contrasts technical analysis with fundamental analysis. The rest of the document describes various technical tools used to analyze market trends and patterns, including charts (line, bar, candlestick), trend lines, support and resistance levels, moving averages, common patterns like head and shoulders and triangles, and indicators like MACD, RSI, Bollinger Bands, and stochastic oscillators. Fibonacci retracements are also discussed.
2. Agenda
• Philosophy – How does Technical Analysis work?
• How is it Different from Fundamental Analysis?
• What are the types of charts used?
• What do the various technical tools suggest in different market conditions?
3. Philosophy
• MARKET ACTION DISCOUNTS EVERYTHING –
All known information about a market is reflected in the price.
In other words, all the present political, economic, psychological and any
other type of information pertinent to the market price, is already
discounted or priced in.
• PRICES MOVE IN TRENDS –
When a price moves in a particular direction, be it up or down, it will
continue to trend in that direction till some news changes market
perception of future direction and reverses the trend itself.
• HISTORY REPEATS ITSELF –
This assumption arises from the fact that mass psychology does not
change. Markets overextend because of the herd instinct leading to panic
and euphoria time and again.
4. Technical v/s Fundamental
TA concentrates on the study of market action, FA focuses on the economic
forces of supply and demand that causes prices to move
FA studies the cause of market movement whereas the TA studies the effect
TA looks at historical data.
TA include FA - some analyst follow the fundamental data calendar thoroughly
(Though some technical analysts don’t care about fundamentals at all)
5. Price Classification
Any floating currency pair can and does trade at different prices on the
same day
The four most important prices are the open, high, low and close in a
trading day
For any trading day the opening price of the day is taken to be the rate
at which the market opens in the far east while the closing price is
taken to be the rate at which market closes in New York
7. Line chart
Line chart is constructed by plotting the closing price on hourly, daily,
weekly or monthly basis and connecting the same
8. Bar chart
Series of vertical lines representing the price movement during that
unit of time.
The high and low are connected and then horizontal hashes are drawn
on the left and right to represent the opening and closing prices
respectively.
9. Candle stick chart
Candle stick charts are the Japanese version of bar charting
Represents same four prices as bar chart – (open, high, low, close)
Consists of – Real Body and shadow
Visual presentation differs – and is for sure better
11. Trend Lines
• Direction of the market, which way it is moving
• Markets never move in a straight line in any direction.
• Market moves are characterized by a series of zigzags
• These zigzags resemble a series of successive waves with fairly obvious peaks and troughs
• It is the direction of those peaks and troughs that constitutes market trend
12. Trend Lines
• Up trend :where prices are generally
increasing. 3 or more rising lows are
connected to denote an uptrend line
• Consolidation: A horizontal or flat trend
line is drawn by connecting either the
highs or the lows.
• Down trend :where prices are generally
decreasing. 3 or more falling highs are
connected to denote a downtrend line.
13. Trend Reversal
• Nothing lasts for ever – no trend lasts for ever
• Often, after a large rise or fall- sideway movement- called consolidation.
• Importance of a trend line - to indicate the possibility of a trend reversal.
• Reversal of uptrend - signaled by the price falling below the uptrend line.
• Reversal of downtrend –signaled by the price rising above the downtrend line.
Reversal of uptrend Reversal of downtrend
14. Trend Reversal
• Penetration of a trend line – can be a pause (false break) or reversal.
• Steeper a trend line, greater is the possibility of its penetration signaling just a pause
and not a reversal.
• As to duration, the longer a trend has been in force, the more powerful is the violation
of the trend line.
• Similarly, the more the number of times a trend line is touched by the price, the
stronger the trend line and more powerful is its penetration.
15. Support & Resistance
Support and resistance lines indicate likely ends of
trends.
Resistance results from the inability to surpass prior
highs.
Support results from the inability to break below to
prior lows.
Once broken what was support becomes resistance,
and vice-versa. This phenomenon of tops and
bottoms often gives rise to the formation of double
tops and double bottoms or triple tops and triple
bottoms.
The more number of times a support or resistance
level has held, the stronger it is.
Support
Resistance
Breakout
16. Moving Averages
• A moving average is simply the average price (usually the closing price) over the last N
periods.
• They are used to smooth out fluctuations of less than N periods.
• Can be simple (SMA) or exponential (EMA)
17. Price Patterns
• Technicians look for many patterns in the historical time series of prices.
• These patterns are reputed to provide information regarding the size and timing of
subsequent price moves, reversals.
• Types:
– Head & Shoulder / Reverse head and shoulder
– Double tops / Double bottoms, Triple top / Triple Bottom
– Rounding tops / Rounding Bottoms
– Triangles : Symmetrical, Ascending, Descending
– Broadening Formations (Reverse Triangles)
– Falling Flag, Rising Flag
– Falling Wedge, Rising Wedge
– Channel
– Reversal bar
18. Head and Shoulders
This formation is characterized
by two small peaks on either
side of a larger peak.
This is a reversal pattern,
meaning that it signifies a
change in the trend.
Head
Head
Left Shoulder
Left Shoulder
Right Shoulder
Right Shoulder
Neckline
Neckline
H&S Top
H&S Bottom
19. Double Tops and Bottoms
These formations are similar to
the H&S formations, but there is
no head.
These are reversal patterns with
the same measuring
implications as the H&S.
Target
Double Top
Double Bottom
Target
20. Rounded Tops & Bottoms
• Rounding
formations are
characterized by
a slow reversal of
trend.
Rounding Top
Rounding
Bottom
21. Market psychology about bottoms and
tops
Bottom – a price level where the buying pressure exceeds selling
pressure
Players who have bought at or near the bottom will be encouraged to
buy again if the price approaches the previous bottom
Vice versa for tops
22. Triangles
Triangles are continuation
formations.
Three types:
– Ascending
– Descending
– Symmetrical
Typically, triangles should break
out about half to three-quarters of
the way through the formation.
23. Broadening Formations
These formations are like
reverse triangles.
These formations usually signal
a reversal of the trend. Broadening Tops
Broadening Bottoms
24. Flags
• Flags are a type of short-term pause
in a prevailing market trend.
• Flags are usually marked by a sharp,
almost horizontal entry into the
pattern.
• Flags are bound by parallel lines of
support and resistance.
• The pattern is commonly followed by
a sharp break back into the prevailing
trend.
Rising Flag
Falling Flag
25. Wedges
• The wedges like triangles & flags are
continuation formations
• The wedge itself forms at an inclination
opposite to the direction of the trend
before breaking out in the direction of the
prevailing trend
• Thus it signifies a sharp expected breakout
in the direction of the prevailing trend
Rising Wedge Falling Wedge
26. Channel
• The channel line runs parallel to
the basic trend line
• If the price of the currency pair
continuously oscillates between
the two lines then one can
assume that a valid channel
exists.
• A firm break of Channel is a
reversal signal
27. Reversal Bar
• A Reversal Bar indicates a
possible reversal of the current
trend.
• The price opens strongly in the
direction of the prevailing trend.
• The trading range is very wide
relative to the preceding bars.
• The price closes near or beyond
the previous open.
28. Technical Indicators
There are, literally, hundreds of technical indicators used to generate
buy and sell signals.
Some of them:
– Moving Average Convergence/Divergence (MACD)
– Relative Strength Index (RSI)
– Stochastic
– Bollinger Bands
– Fibonacci
29. MACD : Moving Average
Convergence Divergence
• MACD - the difference between a 12-day and
26-day moving average. A 9-day moving
average of this difference is used to generate
a signal line.
• When MACD line crosses the signal line in
either direction that particular trend can be
expected.
• Also, a histogram plotting the difference in the
MACD line and signal line is plotted, which
when crosses zero in upwards direction
indicates bullish trend and vice versa.
• MACD is best used in choppy (trendless)
markets
30. RSI : Relative Strength Index
• RSI - an oscillator to gauge
overbought/oversold levels.
• RSI is a measure of the ratio of average
price changes on up days to average price
changes on down days.
• A level above 70 indicates a overbought
levels, and a level below 30 indicates
oversold levels (it can range from 0 to 100).
• But asset can remain overbought or
oversold for long periods of time, so RSI
alone isn’t always a great timing tool.
RSI
31. RSI : Calculation
• For each day an upward change U or downward change D amount is calculated.On an up day, ie.
today's close higher than yesterday's
U = close today − close yesterday
D = 0
• Or conversely on a down day (notice D is a positive number),
U = 0
D = close yesterday − close today
• If today's close is the same as yesterday's, both U and D are zero.
• An average for U is calculated with an exponential moving average using a given N-days smoothing
factor, and likewise for D. The ratio of those averages is the Relative Strength.
RS = EMA of N day’s U / EMA of N day’s D
• This is converted to a Relative Strength Index between 0 and 100
32. Bollinger Bands
Based on a moving average of the
closing price and two standard
deviations above and below the
moving average.
A buy signal is given when the stock
price closes below the lower band,
and a sell signal is given when the
stock price closes above the upper
band.
When the bands contract, that is a
signal that a big move is coming, but
it is impossible to say if it will be up
or down.
Bollinger bands by themselves are
not of much help unless used along
with other indicators.
Upper Bollinger
Mid Bollinger
Lower Bollinger
33. Stochastic Oscillator
• A momentum indicator
• Types - fast and slow.
• The theory:
In an upward-trending market; prices tend
to close near their high
In downward-trending market; prices tend
to close near their low.
• Transaction signals occur when the %K
crosses through a three-period moving
average called the "%D".
• Also indicates overbought and oversold
positions.
34. Stochastic Oscillator – Calculations
• In fast,
%K = 100[(C - L14)/(H14 - L14)]
C = the most recent closing price
L14 = the low of the previous 14 trading sessions
H14 = the high of the previous 14 trading sessions
( other commonly used time frame 5, 9)
%D = 3-period moving average of %K
• In slow,
%K= (%K as in fast)/3
%D = 3-period moving average of %K
35. Fibonacci Series
Each succeeding number is the sum
of the two preceding numbers.
The first two Fibonacci numbers are
defined to be 1, and then the series
continues as follows: 1, 1, 2, 3, 5, 8,
13, 21 and so on.
As the numbers get larger, the ratio
of adjacent numbers approaches the
Golden Mean: 1.618:1.
Fibonacci retracements use
horizontal lines to indicate areas of
support or resistance.
23.6%
38.2%
50%
61.8%
100%
0%