Technical Analysis

Dr. S. Sreenivasa Murthy

Associate Professor
Institute of Public Enterprise


Meaning
Focuses on direction of market
movements
Study of historical price and volume
data using charts and mathematical
indicators so as to predict future
movements
Process of identifying trends and trend
reversals at an early stage
Dow Theory
T.A has its roots in Dow Theory
Formulated by Charles H.Dow
Presented in a series of editorials in the
Wall Street Journal during 1900-1902
Basic Tenets
Market discounts everything
Market has three movements
Primary movement, secondary reaction and minor
movements
Price bar charts indicate movements
Price/volume relationship provides
background
Price action determines the trend
The averages (Indices) must confirm
Market Movements
Primary movement: long term trend
Secondary reactions: restraining force
on the primary move
Minor movements: intra day fluctuations
The three movements are compared to:
tide, waves and ripples of the sea
Wave theory ( Elliot)
The market has a cyclical pattern
The upward movement is followed by a
decline (upto 30 to 35 percent of the
rise)
Each cycle of upward movement and
decline takes the market to a higher
level
Representation of
market movements
Y
Price
X
Days
Primary trend
Secondary
reactions
Bullish Trend
Bullish trend has three phases
Phase 1: revival of confidence
Phase 2: improvement in corporate
earnings
Phase 3: speculation and inflation
Volume should expand along the main
trend
Bearish Trend
Bearish trend has three phases
Phase 1: abandonment of hope
Phase 2: slackness in business
Phase 3: distress selling
Volume should expand along the main
trend

Tools of Technical
Analysis
Price Charts
Prices: opening, closing, high, low
Types of price charts:
Line chart closing price chart
Bar chart high low close chart
Japanese candlestick charts white, black
and doji candlesticks
Line chart


Bar chart


Candlestick chart






Trend and trend
reversals
Trend: direction of movement
Trend may be uptrend, downtrend or flat
trend
Trend reversal: change in direction of
movement
Uptrend to downtrend: formation of lower tops
and bottoms
Downtrend to uptrend: formation of higher
tops and bottoms
Trend reversals signify buying and selling
opportunities

Chart Patterns
Types
Reversal patterns
Support and Resistance
Head and Shoulders
Inverse Head and shoulders
Continuation patterns
Triangles, Flags, Rectangles,Wedges
Support and Resistance

Reversal Patterns
Head and Shoulders

Inverse Head and
shoulders

Continuation patterns:
triangles

Flags

Mathematical
Indicators
Moving Averages
Types:
Simple moving average
Exponential moving average
Exponential moving average
Formula: (Current price previous EMA) * factor
+ previous EMA
where factor =2/(n+1)
Functions:
Smoothens data
Represents trend
Forms support and resistance levels
Price line intersecting trend line indicates trend
reversal
Oscillators
Signifies movement across a reference
point
Used to know overbought and oversold
conditions
Detects possibility of trend reversal
ROC (Rate of change
indicator)
Measures the rate of change between the
current price and the price n days in the past
Formula:
(Current price / price n period ago) 1
ROC values may be positive, negative or zero
ROC values are plotted on an XY graph
ROC line oscillates across the zero line
Movement across zero line shows trend
reversal
Representation of ROC
0
Y
X
ROC
values
Days
RSI (Relative Strength
Index)
Signals buying and selling opportunities
ahead of the market
Formula: 100 [100/(1+RS)]
where RS = (Average gain per day / Average loss
per day)
RSI varies between zero and 100
RSI values above 70 indicate overbought
condition
RSI values below 30 indicate oversold
condition
Representation of RSI
Y
0
X
Days
RSI
values
sell
buy
70

30
MACD (Moving Average
Convergence and
Divergence)
Measures the convergence and divergence
between two EMAs
Formula: short term EMA long term EMA
Popular combinations are:
12 day EMA and 26 day EMA
12 day EMA and 48 day EMA
MACD values are plotted on an XY graph
MACD line oscillates across the zero line
Movement across the zero line indicates
trend reversal





Thank You