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Basic Technical Analysis
Reference:
Technical Analysis of the Financial Markets
By John Murphy
Topics
• What is Technical Analysis (TA)?
• Tenets of Technical Analysis
• Dow Theory
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What is Technical Analysis
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Technical Analysis – study of market action,
primarily through the use of charts, for the
purpose of forecasting future price trends.
--Philosophy of Technical Analysis by John Murphy
Fundamental Analysis - study of economic,
industry, and company conditions in an effort to
determine the value of a company's stock.
Fundamental analysis typically focuses on key
statistics in a company's financial statements to
determine if the stock price is correctly valued.
--www.metastock.com
Tenets of Technical Analysis
3 Tenets of Technical Analysis
1. Market price discounts everything
2. Prices move in trends
3. History repeats itself
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Tenets of Technical Analysis
Market price discounts everything
• Supply and demand causes the price
movement
• Price action has considered all factors about
the market/stock, both known and unknown
• All things happening in the market that
affect the market price, is ultimately
reflected in the market price
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Tenets of Technical Analysis
Prices move in trend
• Trend will continue unless the market proves
otherwise
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Tenets of Technical Analysis
History Repeats Itself
• Chart patterns were identified to have worked in
the past, they are assume to work as well in the
future
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Dow Theory
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Charles Dow
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American Journalist 1851 - 1902
Co founded Dow Jones & Company
Founded the Wall Street Journal
Published his ideas in a series of articles he
wrote in the Wall Street Journal
• Published first stock market average
composed of closing prices of 11 stocks
• Eventually became Dow Jones Industrial
Index (DJIA)
Dow Theory
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Basic Tenets of Dow Theory
1.
2.
3.
4.
5.
6.
The averages discount everything
The market has three trends
Major trends has three phases
The averages must confirm each other
Volume must confirm the trend
Trend is assumed to be in effect until it
gives a definite signal that it has reversed
Dow Theory
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Basic Tenets of Dow Theory
1.
2.
3.
4.
5.
6.
The averages discount everything
The market has three trends
Major trends has three phases
The averages must confirm each other
Volume must confirm the trend
Trend is assumed to be in effect until it
gives a definite signal that it has reversed
Dow Theory
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The Market Has Three Trends
• Primary
• Secondary/intermediate
– corrections in primary trend
– retraces between 1/3 to 2/3 of previous trend
– more frequently half (50%) of previous move
• Minor
– lasts less than 3 weeks
Dow Theory
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Major Trends have Three Phases
Participation
Accumulation
Distribution
Dow Theory
Averages Must Confirm Each Other
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Dow Theory
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Volume Must Confirm the Trend
Down Trend
Price
Volume
Up Trend
Dow Theory
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Volume Must Confirm the Trend
Up Trend (bullish)
Down Trend (bearish)
Price
Volume
Price
Volume
Trend
1
up
up
bullish
2
up
down
bearish
3
down
up
bearish
4
down
down
bullish
Dow Theory
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Volume Must Confirm the Trend
Up Trend (bullish)
Down Trend (bearish)
Price
Volume
Price
Volume
Trend
1
up
up
bullish
2
up
down
bearish
3
down
up
bearish
4
down
down
bullish
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On average, Dow Theory misses 20 to 25% of
a move before generating a signal. Many
traders consider this to be too late.
Traders must remember that Dow never
intended to anticipate trends; rather he
sought to recognize the emergence of major
bull and bear markets to capture the large
middle portion of important market moves.
Technical Analysis of the Financial Markets
By John Murphy
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Dow never intended his theory to forecast
the direction of the stock market. He felt its
real value was to use the stock market
direction as a barometric reading of general
business conditions.
In addition to formulating a great deal of
today’s price forecasting methodology, he
was among the first to recognize the
usefulness of stock market averages as a
leading economic indicator
Technical Analysis of the Financial Markets
By John Murphy
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