Date: April 11, 2017
chnical analysis is applicable to stocks, indices, commodities, futures or any tradable instrument where the price is influenced by the forces of supply and demand. Price refers to any combination of the open, high, low or close for a given security over a specific timeframe.
The time frame can be based on intraday (tick, 5-minute, 15-minute or hourly), daily, weekly or monthly price data and last a few hours or many years. In addition, some technical analysts include volume or open interest figures with their study of price action.
At the turn of the century, the Dow Theory laid the foundations for what was later to become modern technical analysis. Dow Theory was not presented as one complete amalgamation, but rather pieced together from the writings of Charles Dow over several years. Of the many theorems put forth by Dow, three stand out:
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Price Discounts Everything
This theorem is similar to the strong and semi-strong forms of market efficiency. Technical analysts believe that the current price fully reflects all information. Because all information is already reflected in the price, it represents the fair value and should form the basis for analysis. After all, the market price reflects the sum knowledge of all participants, including traders, investors, portfolio managers, analysts and many others. Technical analysis utilizes the information captured by the price to interpret what the market is saying with the purpose of forming a view on the future. -
Prices Movements are not Totally Random
Most technicians agree that prices trend. However, most technicians also acknowledge that there are periods when prices do not trend. If prices were always random, it would be extremely difficult to make money using technical analysis. In his book, Schwager on Futures: Technical Analysis, Jack Schwager states:“One way of viewing it is that markets may witness extended periods of random fluctuation, interspersed with shorter periods of nonrandom behavior. The goal of the chartist is to identify those periods (i.e. major trends).”
A technician believes that it is possible to identify a trend, invest or trade based on the trend and make money as the trend unfolds. Because technical analysis can be applied to many different timeframes, it is possible to spot both short-term and long-term trends.
The AMMB Daily chart (16-Feb, 2001) illustrates on the nature of the trend. The broad trend is in trading range between RM 3.00 and RM4.00. In between the trading ranges are smaller trading ranges (as illustrated in the trend lines). A new up trend or downtrend is renewed when the stock breaks the trading range trend lines.
What is more Important than Why
In his book, The Psychology of technical analysis, Tony Plummer paraphrases Oscar Wilde by stating, “A technical analyst knows the price of everything, but the value of nothing”. Technicians, as technical analysts are called, are only concerned with two things:
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What is the current price?
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What is the history of the price movement?
The price is the end result of the battle between the forces of supply and demand for the company’s stock. The objective of analysis is to forecast the direction of the future price. By focusing on price and only price, technical analysis represents a direct approach. Fundamentalists are concerned with why the price is what it is. For technicians, the why portion of the equation is too broad and many times the fundamental reasons given are highly suspect. Technicians believe it is best to concentrate on what and never mind why. Why did the price go up? It is simple, more buyers (demand) than sellers (supply). After all, the value of any asset is only what someone is willing to pay for it. Who needs to know why?
“Technical analysis is the examination of past price movements to identify patterns of price movements…”
Technical analysis is the examination of past price movements to identify patterns of price movements. Technical analysts are sometimes referred to as chartists because they rely almost exclusively on charts for their analysis.
