Brief Summary of Technical Analysis

Brief Summary of Technical Analysis:

Technical analysis is a method of evaluating securities by analyzing the statistics generated by market activity. It is based on three assumptions: 1) the market discounts everything, 2) price moves in trends and 3) history tends to repeat itself.

Technicians believe that all the information they need about a stock can be found in its charts.

Technical traders take a short-term approach to analyzing the market.

Criticism of technical analysis stems from the efficient market hypothesis, which states that the market price is always the correct one, making any historical analysis useless.

One of the most important concepts in technical analysis is that of a trend, which is the general direction that a security is headed. There are three types of trends: uptrends, downtrends and sideways/horizontal trends.

A trendline is a simple charting technique that adds a line to a chart to represent the trend in the market or a stock.

A channel, or channel lines, is the addition of two parallel trendlines that act as strong areas of support and resistance.

Support is the price level through which a stock or market seldom falls. Resistance is the price level that a stock or market seldom surpasses.

Volume is the number of shares or contracts that trade over a given period of time, usually a day. The higher the volume, the more active the security.

A chart is a graphical representation of a series of prices over a set time frame.

The time scale refers to the range of dates at the bottom of the chart, which can vary from decades to seconds. The most frequently used time scales are intraday, daily, weekly, monthly, quarterly and annually.

The price scale is on the right-hand side of the chart. It shows a stock's current price and compares it to past data points. It can be either linear or logarithmic.

There are four main types of charts used by investors and traders: line charts, bar charts, candlestick charts and point and figure charts.

A chart pattern is a distinct formation on a stock chart that creates a trading signal, or a sign of future price movements. There are two types: reversal and continuation.

A head and shoulders pattern is reversal pattern that signals a security is likely to move against its previous trend.

A cup and handle pattern is a bullish continuation pattern in which the upward trend has paused but will continue in an upward direction once the pattern is confirmed.

Double tops and double bottoms are formed after a sustained trend and signal to chartists that the trend is about to reverse. The pattern is created when a price movement tests support or resistance levels twice and is unable to break through.

A triangle is a technical analysis pattern created by drawing trendlines along a price range that gets narrower over time because of lower tops and higher bottoms. Variations of a triangle include ascending and descending triangles.

Flags and pennants are short-term continuation patterns that are formed when there is a sharp price movement followed by a sideways price movement.

The wedge chart pattern can be either a continuation or reversal pattern. It is similar to a symmetrical triangle except that the wedge pattern slants in an upward or downward direction.

A gap in a chart is an empty space between a trading period and the following trading period. This occurs when there is a large difference in prices between two sequential trading periods.

Triple tops and triple bottoms are reversal patterns that are formed when the price movement tests a level of support or resistance three times and is unable to break through, signaling a trend reversal. A rounding bottom (or saucer bottom) is a long-term reversal pattern that signals a shift from a downward trend to an upward trend.

A moving average is the average price of a security over a set amount of time. There are three types: simple, linear and exponential.

Moving averages help technical traders smooth out some of the noise that is found in day-to-day price movements, giving traders a clearer view of the price trend.

Indicators are calculations based on the price and the volume of a security that measure such things as money flow, trends, volatility and momentum. There are two types: leading and lagging.

The accumulation/distribution line is a volume indicator that attempts to measure the ratio of buying to selling of a security.

The average directional index (ADX) is a trend indicator that is used to measure the strength of a current trend.

The Aroon indicator is a trending indicator used to measure whether a security is in an uptrend or downtrend and the magnitude of that trend.

The Aroon oscillator plots the difference between the Aroon up and down lines by subtracting the two lines.

The moving average convergence divergence (MACD) is comprised of two exponential moving averages, which help to measure a security's momentum.

The relative strength index (RSI) helps to signal overbought and oversold conditions in a security.

The on-balance volume (OBV) indicator is one of the most well-known technical indicators that reflects movements in volume.

The stochastic oscillator compares a security's closing price to its price range over a given time period.