Technical Analysis
CHAPTER 9
Technical Analysis
Technical analysis attempts to predict changes in prices by identifying trends or patterns in market price, volume, or other market indicators.
Technical analysis is often referred to as
“charting,” but charting is only one type of technical analysis.
Technical Analysis
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Technical analysis will not will not benefit investors in an efficient market (even if it is only weak-form efficient).
If a market is weak-form efficient, security prices fully reflect all market information.
Technical Analysis
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Charting
Market structure
Sentiment
Types of Technical Analysis
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One form of charting is referred to as the
Dow Theory.
It attempts to identify “primary trends,”
“intermediate trends” and “minor trends.”
Charting
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Primary trends are long-term, lasting several months or longer and are the most important.
Secondary trends are short-term deviations from the primary trend, lasting a few days or a few weeks.
Minor trends are daily fluctuations
Charting: Dow Theory
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Figure 9.3 Dow Theory Trends
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Technical analysts attempt to identify primary trends early enough to participate.
The problem is that it is difficult to distinguish between the three trends
(except after the fact).
Charting: Dow Theory
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The Dow Theory also looks for “support levels” and “resistance levels.”
◦ A support level is a price below which the market should not go.
◦ A resistance level is a price above which the market should not go.
Charting: Dow Theory
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Another category of technical analysis is referred to market structure. It includes:
◦ Moving average
◦ Breadth indicators:
Advances – declines
Closing tick
Market Structure
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Market Structure Indicators
Moving Averages
Average price over some historical period
(5 weeks or 200 days)
When current price crosses the average a trading signal occurs
Bullish signal when the current price rises above the moving average
Bearish sign when the current price falls below the moving average
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Figure 9.7 Share Price and 50-Day
Moving Average for Apple Computer
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Table 9.2 Breadth
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Yet another form of technical analysis is based on investor sentiment. There are many indicators of investor sentiment.
One problem: many sentiment indicators can be interpreted as either bullish or bearish.
Sentiment Indicators
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Odd - Lot Trading
Ratio of odd-lot purchases to odd-lot sales
When ratio exceeds 1.0, it means odd lot investors are buying more than they are selling. This is a bearish signal
(contrarian): small investors are usually wrong
Sentiment Indicators
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Sentiment Indicators
Trin Statistic:
Volume declining/Number declining
Trin =
Volume advancing/Number advancing
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Short Interest - total number of shares that are sold short
◦ When short sales are high a signal occurs:
Bearish interpretation: investors sell short if they believe stock prices will fall. Most short sellers are sophisticated, knowledgeable investors.
Bullish interpretation: short positions have to be covered & represent future buying.
Technical Indicators
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The Super Bowl
January performance of stock market
Other Technical Indicators
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