These are turbulent times, the financial markets are in crisis, the US economy might be heading into a recession. If you are used to basing your investment decisions solely on fundamental analysis up to now, Stop! think again, its time you explore Technical Analysis.
Over the past several months many analysts, advisers, and savvy investors have recommended buying stocks. They argued that stocks were dirt cheap, extremely undervalued, and that current price levels were unjustified. "Lets go bargain hunting" as many put it. Unfortunately what happened was many investors and traders took their advice and went out and bought stock at their so called " bargain prices", and ended up paying dearly for them. Either their entire initial investment was wiped out, or sometimes a large chunk of it disappeared overnight.
What went wrong? It wasn't that the fundamentals weren't there, surely if many of these analysts were recommending these stocks and analyzed them carefully, they were true gems. The problem was when they recommended people to buy these gems, for some reason they did not stop for a moment and consider the possibility that the stock could continue to drop in price,or even crash, resulting in severe losses. What were these fundamental analysts missing? Basic knowledge of Technical Analysis .
Technical Analysis uses historical prices and volume patterns to predict future behavior. From Wikipedia (http://en.wikipedia.org/wiki/Technical_analysis):: "Technical analysis is frequently contrasted with fundamental Analysis, the study of economic factors that some analysts say can influence prices in financial markets. Technical analysis holds that prices already reflect all such influences before investors are aware of them, hence the study of price action alone".
Technical Analysts strongly believe that by studying historical prices and other key variables you can predict the future price of a stock. Nothing is absolute in the stock market, but increasing your probabilities that a stock will go the direction you anticipate it to based on careful technical analysis is more accurate. Technical analysts try to spot a trend, and ride that trend until the trend has confirmed a reversal. If a good company's stock is in a downtrend according to its chart, a trader or investor using Technical Analysis will not buy the stock until its trend has reversed and it has been confirmed according to other important technical indicators.
Technical Analysis gives one more insight of how the stock has behaved in the past and where it looks like it might be heading in the future. When a stock is in a downtrend, isn't it better first for it to bottom, then start an uptrend, and then buy the stock then buying it when its still in a downtrend? If a pair of scissors fall off the table will you try to catch them in midair where you might end up cutting yourself and bleeding, or will you wait for them to first fall to the floor and then pick them up to prevent yourself from a serious injury? If the latter makes more sense to you then you should apply some basic Technical Analysis the next time before investing or trading a stock.
One does not have to learn the whole field of Technical Analysis to start using it. There are too many tools and theories out there that it can appear overwhelming and time consuming. However In this article I am going to mention the 6 most basic and I feel important technical indicators or tools used, that you should pay careful attention to when researching a stock.
Below is just a short description of these indicators, further research is recommended in order to apply them correctly to your stock research. These basics can help time better entry and exit points when trading. A good investment or trading choice using Technical Analysis is based on a stock's chart. So pick a chart and begin analysing it:
1. General uptrend and general downtrend- Before investing or trading this is the most important indicator. "The trend is your friend". It is easier to make money when a stock is going up, higher highs and higher lows, called an uptrend, then when it is going down, lower highs and lower lows, a downtrend. In an uptrend each new peak that is formed is higher than the prior ones. The trend will be broken if the next low is lower than the previous low the stock fails to form a new peak higher than its previous ones. Stocks that have charts that go up and down with no direction, and no clear uptrend or downtrend are difficult to predict which direction they are heading. A stock in a steady general uptrend or general downtrend are much easier to trade.
2. MACD Crossover. After you have researched a stocks chart to see if the stock is trending, you should now check out its MACD graph. MACD-stands for Moving Average Convergence-Divergence. This graph has 2 lines , the crossing of the two lines is a signal of a new trend. The two lines consist of a fast line and a slow line. Where the crossover happens tells you if there is a trend. The fast line has to cross above the slow line, or above the 0 line. The higher it ascends above the 0 line the stronger the uptrend. The lower it descends below the 0 line the stronger the downtrend. A trader or investor wants to catch stocks that are trending big time, that is how it is possible to make good money!
3. Close above or close below the EMA'S. When analysing a stock's chart , moving averages are vital. It is one of the easiest tools used in TA. EMA-stands for Exponential Moving Average.When a stock closes above its 13 and 50 day EMAs this is a bullish signal. If a stock closes below it's 50 day and 13 day EMAs there is a good chance that it might fall to its 200 day EMA creating a bearish signal. Some stocks when they take a breather, bounce off their 5o day EMA, which creates an excellent buying opportunity before they make new highs. Stocks that have recently closed above their 50 day EMA might be reversing their trend , and might go higher. 4. Stochastic-oversold and overbought. This indicator shows you the short term movements of a stock. Essentially you want to buy when a stock is oversold and exit when its overbought. If you are considering selling short a particular stock an overbought condition might make a nice entry point. When observing a stochastic graph look out for what looks like a hook being formed, this can indicate an excellent entry point where the stock has bottomed already and it is rising from oversold conditions. Some of the best trades are when you can catch a stock that is in an uptrend, above its 50 day EMA and oversold according to a stochastic graph.
5. Support & Resistance. Support-this term describes the bottom of a stock's trading range. It's like a floor that a stock price finds it hard to penetrate through. Resistance-this term describes the top of a stock's trading range.It's like a ceiling which a stock's price doesn't seem to rise above. Support and resistance levels are essential clues as to when to buy or sell a stock. Many successful traders buy a stock at support levels and sell short stock at resistance. If a stock manages to break through resistance it could go much higher, and if a stock breaks its support it could signal a breakdown of the stock, and it might go down much further.
6. Volume. Without volume trading could not take place. Its volume that causes stocks to move.Without volume nobody can get off the ground. If a particular stock is being purchased a lot, its price will rise. If a stock is being heavily sold more than its being purchased it will fall. If a stock all of the sudden breaks resistance with increased volume, it will probably continue higher. Always pay close attention to a volume chart.
About the Author:
Shoshana Antelman is an experienced trader, instructor, and author. Head of Global Pecunia LLC trading team, she recommends which ADRs and foreign stocks to trade. Go to www.tradingadr.com. to learn how to trade ADRs successfully, and to see her stock picks.