Candlestick2

Candlestick charts are thought to have been developed in the 18th century by legendary rice trader named Munehisa Homma from the town of Sakata, Japan.

Formation
A candlestick is composed of 2 parts:
1.      A real body (white or black)
2.      Shadows (upper & lower)
A candlestick carry a message shown open, close, high and low values for a time period. 

Here are 2 important aspects we should pay attention:
1.      Length of body
2.      Length of shadow

Length of body
Generally speaking, the longer the body is, the more intense the buying or selling pressure. Conversely, short candlesticks indicate little price movement and represent consolidation.
Long white candlesticks show strong buying pressure. This indicates that prices advanced significantly from open to close and buyers were aggressive. While long white candlesticks are generally bullish, much depends on their position within the broader technical picture.
Long black candlesticks show strong selling pressure. This indicates that prices declined significantly from the open and sellers were aggressive.

Length of shadow
The shadow length actually indicates the buyers and sellers status. The shadow length can provide a answer to buyers and sellers’ position. Is the dominating side still in advance position? They are in exhausted position currently?

Long Upper Shadow
Long upper shadow means the price being pressed down by the selling pressure, they unable to push the price to a higher level. The buyers are exhausted; sellers make a counter on the uptrend. The longer the upper shadow, the more exhausted the buyer is.

Long Lower Shadow
Long lower shadow means the price being push up by the buying pressure, they unable to push the price to a lower level. The sellers are exhausted; buyers make a counter on the downtrend. The longer the lower shadow, the more exhausted the seller is.

Chart pattern 1

One of the most common questions I get asked about technical analysis is:

“Price movement is random, chart patterns exist in variety. How do we study on it?”
Well, the best answer to this question I had come across is this one by Jessie Livermore:
“All through time, people have basically acted and reacted the same way in the market as a result of: greed, fear, ignorance, and hope. That is why the numerical formations and patterns recur on a constant basis.”
Chart formations basically are the result of human emotion. Human nature never changed. This is the reason why history repeated itself.
Although there are many charts present in different patterns, seem like no idea how it is going to move. Actually, different charts can be simplified and concluded in 2 general types. In this session, we are going to discuss about these 5 chart types.
 
A. Reversal formation
Every stock price reversal is ultimately the result of one of the following: distribution or accumulation. Some of the most trusted reversal patterns are:

Bearish reversal
1. Head and Shoulders
Appear at market top as a bearish reversal pattern.
 
Formation
Price forms a left shoulder, head and right shoulder pattern.
Neckline, a straight line which connects the right and left shoulder.
Volume decrease gradually from left shoulder to right shoulder.
 
Neckline is a strong support level, an important line to watch at when price drop to this level. A sharp increase in volume on the break below neckline is another important confirmation on this reversal pattern. Head & Shoulders reversal pattern formed at 2008.
 

2. Double Top
Appear at market top as a bearish reversal signal
Look like a letter “M”

Formation
Form a left peak and right peak.
Neckline, a line which connect the lowest points of both peak.
Volume at second peak much lower than the first peak.
 
Neckline is a strong support level, an important line to watch at when price drop to this level. A sharp increase in volume on the break below neckline is another important confirmation on this reversal pattern. Lower high formed at second peak indicate a stronger reversal signal.

 

3. Rounding Top
Appear at market top as a bearish reversal signal.
Higher lows formed at left side.
Lower highs formed at right side.
Volume at middle curve are the lowest, while both side of curve have higher volume.

Bullish reversal 
1. Inverted Head and Shoulders
Appear at the market bottom as a bullish reversal signal.

Formation
Price forms an inverted left shoulder, head and right shoulder pattern.
Neckline, a straight line which connect the right and left shoulder.
Volume increase gradually from left shoulder to right shoulder.

Neckline is a strong resistance. A breakout at neckline indicates a strong bullish signal. Increase in volume during the breakout is another confirmation of the reversal.   

2. Double Bottom
Appear at market bottom as a bullish reversal signal
Look like a letter “W”

Formation
Form a left valley and right valley.
Neckline, a line which connects the highest point of both valleys.
Volume at second valley much higher than the first valley.

Neckline is a strong resistance level, an important line to watch at when price stand nearby this level. A sharp increase in volume on the break above neckline is another important confirmation on this reversal pattern. Higher low formed at right valley indicated a stronger reversal signal.

3. Rounding Bottom
Appear at market bottom as a bullish reversal pattern
Lower highs formed at left side.
Higher lows formed at right side.
Volume at middle curve is the lowest, while both side of curve have higher volume.

B.Correction formation
Stock price take a pause and rest of varying durations. A pattern is considered complete when the pattern has formed and then "breaks out" of that pattern. Here are some of the common correction formations:

Triangle

Formation
At the start of its formation, the triangle is at its widest point, the range of trading become narrows as it moves in sideway
Upper trend line links all the highs, while lower trend line link all the lows
Volume decrease gradually as the price movement become inactive.

Consists of 3 types

-Ascending triangle
-Descending triangle
-Symmetrical triangle

There are 2 lines to pay attention; upper trend line is a critical resistance level, while lower trend line is a vital support level. Any breakout on these 2 lines will indicate the further movement.

1. Ascending Triangle
Selling pressure getting less as price trade from a wide to a narrow range. Sellers are observing and they not willing to sell off their stock with lower price.
Volume decreased along the trading pattern but higher lows are formed due to only a little buying volume already can digest the selling pressure and push the price up.
A strong resistance exists at upper trend line.

2. Descending Triangle
Buying pressure getting less as price trade from a wide to a narrow range. Buyers are observing and they not willing to buy stock with higher price.
Volume decreased along the trading pattern but lower highs are formed due to low buying pressure. So, only a litter selling volume already can push the price down.
A strong support exists at lower trend line.

3. Symmetrical triangle
Buyers are more willing to buy at lower price, while sellers more willing to sell at higher price.
Buyers and sellers both are observing the situation. So, transaction volume is getting low along the triangle pattern.
When symmetrical triangle occurs, it means buy pressure and sell pressure are the similar for that particular period. The direction of future trend will not be known until the breakout happens.
 

 
Box
Formation
A strong resistance level exists on the top of box
A strong support level exists on the bottom of box 

Any breakout happens on the top or bottom of box will indicate further movement. Sharp increase in volume during the breakout is another factor to determine its movement’s momentum

1. Bullish box
When the price breaks out the top limit of the box, it is called a bullish box. Bullish box is a strong indication of up trend. The longer the term stock in a box, the stronger the up trend after it breaks up.

2. Bearish box
When the price breaks out the bottom limit of the box, it is called a bearish box. Bearish box is a strong indication of down trend. The longer the term stock in a box, the stronger the down trend after it breaks up.

RSI

RSI is one of the famous momentum indicator. Momentum indicator is used to measure the rate of change of the stock price. The theory behind momentum indicator is simple. It implies that price will go up/down forever continuously. It need to rest for a while especially after strong  movement in one direction. So when we see the sign of a stock want to rest, we sell it. When we see a stock start getting momentum, we buy it. It is very simple.
RSI consists of one line moving around the region, with 70% marked as upper limit, and 30% marked as lower limit.

RSI = 100 - 100/(1 + RS)
where RS = (average gain/ average loss)

There are 2 simple methods in using RSI
1 Monitoring the trend
During an uptrend, if the lowest point of RSI becomes higher and higher, it means the trend become stronger. If the movement of RSI is only above center line (50%) and does not fall below it, it means the stock is in super strong uptrend. It is similar for the situation in downtrend.
 

 
2 Short term buy/sell call
RSI is a sensitive indicator that can be used to earn short term profit from the retract and rebound of the stock price. In an uptrend, when RSI that was always above 70% upper limit start to break the limit line, it means a short term sell call and the stock price want to have a rest since above 70% upper limit is a high tension area. When RSI falls touching 30% and rebound, it is a short term buy call and means the stock price has enough rest and start to move again.
 

However, since RSI is very sensitive and sometimes give a false selling signal especially when RSI oscillate around  70% upper limit. There are two suggestions to solve this problem. First, Refer RSI together with another momentum oscillator: stochastic oscillator. When RSI falls below 70%  together with stochastic oscillator falls below 80%, sell out the stock. Second, Wait 2-3days after RSI leaves 70% upper limit, if there is a sign of rebound across 70%, keep it. If it continues to drop, sell it.

Continue to Step 10-2: "Stochastic Oscillator"

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Ichimoku Cloud

Ichimoku Kinko Hyo Cloud is a complex indicators which consists of 5 lines. However, we will not go into such details. We only talk about the practical part which is the cloud as the name mentions. There are two colours of the clouds: usually red and blue (depends on the tools used). In the following example, red is the supportive cloud and blue is the resistive cloud. There are two main functions of the cloud.

1 Cloud act as support/resistant area

When stock price is in the uptrend, stock price always above red cloud. Red cloud will serve as supportive area. When stock price fall and touching the boundary of red cloud, it usually will rebound. 

2 Break Through Cloud

When the stock price in an uptrend originally above the red cloud break through the red cloud and stay below the red cloud, it is the sign of changing of trend. The red cloud will subsequently change colour to blue cloud and blue cloud will serve as the resistive area for the stock price.

Continue to Step 10-1: "RSI"

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Stochastic Oscillator

Stochastic Oscillator is one of the famous momentum indicator. Momentum indicator is used to measure the rate of change of the stock price. The theory behind momentum indicator is simple. It implies that price will go up/down forever continuously. It need to rest for a while especially after strong  movement in one direction. So when we see the sign of a stock want to rest, we sell it. When we see a stock start getting momentum, we buy it. It is very simple.

Stochastic Oscillator usually consists of 2 lines (sometimes 3 lines).

%K(14days) =  (Current Close- Lowest Low in past 14days)/(Highest High in past14days- Lowest Low in past 14days)*100

%D = 3days SMA of %K

(Third Line = Smoothed %D)

As we can see from formula %K, stochastic oscillator measures the location of current close price among the range of highest price and lowest price in past 14days. If current price is the highest among past 14days, %K= 100.

There are 2 simple method in using stochastic oscillator

1 Monitoring the trend

During an uptrend, if the lowest point of %D becomes higher and higher, it means the trend become stronger. If the movement of %D is only above center line (50%) and does not fall below it, it means the stock is in super strong uptrend. It is similar for the situation in downtrend.

2 Short term buy/sell call

Stochastic Oscillator is a sensitive indicator that can be used to  earn short term profit from the retract and rebound of the stock price. In an uptrend, when %D  that was always above 80% upper limit start to break the limit line, it means a short term sell call and the stock price want to have a rest since above 80% upper limit is a high tension area. When %D falls touching 20% and rebound, it is a short term buy call and means the stock price has enough rest and start to move again.

However, since stochastic oscillator is very sensitive and sometimes give a false selling signal especially when %D oscillate around  80% upper limit. There are two suggestions to solve this problem. First, Refer stochastic oscillator together with another momentum oscillator: RSI. When stochastic oscillator falls below 80% together with RSI falls below 70%, sell out the stock. Second, Wait 2-3days after %D leaves 80% upper limit, if there is a sign of rebound, keep it. If there is no rebound, sell it.

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MACD

MACD consist of three items:

1 MACD = 12days price exponential moving average -26days price exponential moving average

2 Signal Line = 9days exponential moving average of MACD

3 MACD Histogram = MACD - Signal Line

The theory behind MACD is very complicated. Why is the calculation like that? I don’t have the answer for this. But I do know several uses of MACD

1 Golden cross/dead cross

There are 2 line in MACD: MACD line and signal line. When MACD line cross signal line from below to above, it means a golden cross, it is a signal to buy in. On the other hand, when MACD line cross signal line from above to below, it means a deadly cross, it is a signal to sell out. For details ,can refer to SMA.

2 Above 0 / below 0

There is a center line which indicate MACD = 0. When MACD is above 0 which is positive in value, it means 12EMA is above 26EMA, it means an uptrend sign after golden cross. When MACD  is below 0 which is negative in value, it means 12EMA is below 26EMA, it means an downtrend sign after deadly cross.

3 MACD Histogram

MACD Histogram is the difference between MACD-Signal Line. When histogram above 0, it means MACD is above Signal line and is and uptrend signal. However, when the histogram is too large in value, it means a retracement is coming.  It is same as the opposite.

Continue to Step 9: "Ichimoku Cloud"

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What So Special?

There are many websites writing about Technical Analysis. What is the difference of this blog?

I have a few comments about usual website teaching Technical Analysis

1. There is no instruction guide me as a beginner where to start from.

2. Too much detailed information for a beginner like me.

3. Do not discuss theory behind technical indicator and not mention why this technical indicator will work?

4. Do not explain when and why a technical indicator not functioning.

Therefore, in this blog,

1. Clear instruction about step by step to  learn the basics of technical analysis will be emphasize in this blog.

2. I will not present all details about all technical indicators but only the part that I considered important and will help in investment.

3. In this blog , I will emphasize of the theory behind every technical indicators that I introduced. My intention is when you know the theory behind, you can know which indicators to use and  why to use this indicator.

4. I will explain why sometimes technical indicators fail.

5. Most important part, I will show how to use the combination of fundamental and technical analysis to improve the accuracy of choosing potential stocks.

So, lets begin the journey of technical analysis. In the end of this journey, you will realize that technical analysis will totally different with what you think before.

Continue to Step 2: "Dow Theory"

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Volume-Price Relationship

Beside price, the only data available everyday to public is volume. So, in my opinion, volume is the second important indicator beside price. Volume alone has not much meaning to investors. Therefore, volume have to be read side by side with price.
There are 2 main usages of volume:

1 Eliminate company with very small and no volume at all (small movement of price with no trend)
Stock price is moved by investors who make buy and sell decisions. Low volume and no volume means there is very little investors monitors that stock. Even the stock is undervalue or provide good financial results, the stock price will not move because no investors buy to push up the stocks.
For technical analyst, no volume and little price movement hard to become indicators to predict the future trend. So mostly they will also avoid stock with low volume.

2 Volume can show the types of investors and the condition behind this stock
There are two significant players in the stock market: main power and retails. These two players have the power to influence the stock volume which in turn will be shown by looking at the volume and the condition where the volume occurs.

There are certain rules of thumb:
For price up, there are 3 different conditions
1 Price up, volume up: short term buy in
When price up, volume up means the increase of stock price is recognized by retails. Since more retails will spot this stock and continuous buy in, the stock price will increase in short term.

 
2 Price up, volume constant: long term buy in
Main power can push up the price easily without much selling power. It means the price is still undervalued and the increase of stock price still have a long time to go.

3 Price up, volume down: short term sell out (very rare)
It means although main power push up the price, the retails do not want to buy in maybe due to the price already too high(especially when the price already increases for a certain period). When main power cant attract the retails to buy their shares, they will stop buying (afraid cant sellout), it will cause the stock price comes to a correction.

For price constant, there are 3 different conditions
4 Price constant, volume up : prevent changes of trend
Especially happen after long time of an uptrend, volume up means retails are still buying in, price constant are due to the selling of main powers. When main powers start to sell out their share tremendously, it means the up trend will be over soon.

5 Price constant, volume constant: See condition
This situation means the buy side and sell side still on the watch, the future trend still not clear.

6 Price constant, volume down: Strong trend
When this condition happen especially in the correction in uptrend, hurry buy in. price constant during correction indicates a strong trend, (no strong selling), volume down means sellers who are willing to sell at current price become lesser and lesser.

For price down, there are 3 different conditions
7 Price down, volume up : Run no way
It means retails recognize such a price fall and sell together. Because retails are selling on panic, such a price drop will cause an even larger panic.

8 Price down, volume constant: Down trend continue
If the condition happening in a down trend, it means there are no strong buy powers willing to accept the stock in current stock price. If it happens in a correction in uptrend, it means the condition still not clear, need to wait until price break the resistance line still decide whether want to buy in.

 
9 Price down, volume down: Correction Over
If this condition happen in the correction during uptrend, its effect is same with the "price constant volume down" effect, just the trend is not as strong as that, it means the correction will end soon and start another price increases. If it happens in a down trend, it means the sellers do not want to sell at such a low price.
 

Above 9  thumbs of rule can only be used in a normal uptrend or downtrend. A normal trend means there is nothing important news happened to that particular company or to the whole stock market during the trend.

Continue to Step 5: "Candlestick"

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Simple Moving Average (SMA)

Simple Moving Average (SMA) means a line constituted by the average stock price of the past. For example, a 10 days SMA is a line constituted by the stock price averaged of past 10 days.

Simple Moving Average (SMA) has several simple uses and it is very common among technical analyst.

1 Golden Cross/Dead Cross

When a shorter term SMA cross a longer term SMA from below to above(5days SMA cross 10days SMA),

Golden cross is formed. This is the common definition. To be more specific, for a golden cross to be formed, both short term and long term SMA should be slope upwards.

For deadly Cross, it is completely opposite. When a shorter term SMA cross a longer term SMA from above to below(5days SMA cross 10days SMA), dead cross is formed. Specifically,  for a dead cross to be formed, both short term and long term SMA should be slope downwards.

One of the most simple technical strategies is buy in when a golden cross is formed and sell out when a dead cross is formed.

2 Slope of SMA

If we monitor directly everyday actual price movement, sometimes we can hardly see the trend because there are so much noise and volatility. Therefore, we can choose to monitor the slope of the SMA because SMA represent the average value of the past stock price and is more smooth compared to actual price. The longer the SMA is, the more powerful is it to determine a trend. Especially when an original upward slope SMA starts to slope downward, it may indicate a change of upward trend to downward trend. 

3 Support and Resistance Line

When SMA is below the actual stock price, it serves as a supportive line. When the price touches that particular SMA from the top, it will face strong buying power  and hard to break through it. When SMA is above the actual stock price, it serves as a resistance line. When the price touch the SMA from below, it will face strong selling power and hard to break through it.

The theory behind this phenomenon is because of the main power. Main power usually requires a few days/weeks to buy in the amount of stock they required (main power buy a lot of stock). If a main power use 10 days to buy in the stock, 10 days SMA becomes his average buy in prices. Therefore, when actual price drop and touch SMA line, main power will stop the dropping of price by buying more. This is because actual price above SMA (average buy in price for main power) means a profit and actual price drops below SMA means a loss for main power.

Continue to Step 7: "Bollinger Band"

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Candlestick

Candlesticks

Candlestick charts are thought to have been developed in the 18^th century by legendary rice trader named Munehisa Homma from the town of Sakata, Japan.

Formation

A candlestick is composed of 2 parts:

1.      A real body (white or black)

2.      Shadows (upper & lower)

A candlestick carry a message shown open, close, high and low values for a time period.

Here are 2 important aspects we should pay attention:

1.      Length of body

2.      Length of shadow

Length of body

Generally speaking, the longer the body is, the more intense the buying or selling pressure. Conversely, short candlesticks indicate little price movement and represent consolidation.

Long white candlesticks show strong buying pressure. This indicates that prices advanced significantly from open to close and buyers were aggressive. While long white candlesticks are generally bullish, much depends on their position within the broader technical picture.

Long black candlesticks show strong selling pressure. This indicates that prices declined significantly from the open and sellers were aggressive.

Length of shadow

The shadow length actually indicates the buyers and sellers status. The shadow length can provide a answer to buyers and sellers’ position. Is the dominating side still in advance position? They are in exhausted position currently?

Long Upper Shadow

Long upper shadow means the price being pressed down by the selling pressure, they unable to push the price to a higher level. The buyers are exhausted; sellers make a counter on the uptrend. The longer the upper shadow, the more exhausted the buyer is.

Long Lower Shadow

Long lower shadow means the price being push up by the buying pressure, they unable to push the price to a lower level. The sellers are exhausted; buyers make a counter on the downtrend. The longer the lower shadow, the more exhausted the seller is.

Combined the two aspects and put it into observation, it can conclude that:

1.      A white candlestick with long lower shadow indicated strong buying pressure; the buyers are dominating the trading.

2.      A black candlestick with long upper shadow indicated strong selling pressure; the sellers are dominating the trading.

3.      Long upper shadow and long lower shadow both exist at the same time; this indicated buying and selling pressure are equal. The highest point in the time period is a strong resistance, while the lowest point is a strong support. The longer the shadow, the stronger the support and resistance have been.

Continue to Step 6: "Simple Moving Average (SMA)"


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