Technical analysis" or "charting" are methods of evaluating the stock market. Technical analysis proposes that previous price movements, properly interpreted, can indicate future price patterns. However, past performance isn't a guarantee of future results. When combined with sound fundamental analysis, technical analysis may help investors and their financial advisors make wise stock decisions. Below are several commonly asked questions about technical analysis.
Q. How do analysts evaluate and predict price movements?
A. Technical analysts use charts or computer programs to identify and project price trends in markets, securities, or commodity futures. Most technical analysis is done for the short or intermediate term, but some technicians also predict long-term cycles based on charts and other data. Unlike fundamental analysis, technical analysis isn't concerned with the financial position of a company.
Q. What do technical analysts look for?
A. When viewing charts from the technical perspective, technical analysts usually check the following seven factors:
- Trend is the direction of price movement. The direction can help decide whether a stock is suitable to purchase at this time, or if the investor should wait for a more advantageous entry point.
- Momentum is the rate of acceleration or deceleration in price or volume of a stock. When a stock begins to rise rapidly, technical analysts may feel it has more upside potential. In other words, acceleration indicates a trend that's intact. When upward momentum slows, the stock may be considered near a peak. When downward momentum slows, the stock may be defined as nearing a bottom or trough.
- Volume. Technical analysts usually consider it bullish (positive) when volume expands on days when the stock is rising in price. Likewise, lower volume during a stock price decline also would be considered bullish because it could indicate selling is leveling off.
- "Moving" averages. A stock price chart normally includes a moving average line, which is calculated by dividing the sum of the closing prices by the number of days in the average. Technicians then check to see if the stock's price has moved above or below the moving average line. They may view a move below the average as a sell signal, while a move above the average may be seen as a buy signal.
- Relative strength. When technical analysts divide a stock's price by an index value over time and plot the results, they create the stock's relative strength line. An upward-sloping relative strength line generally is viewed as bullish. However, a line that slopes upward doesn't always mean a rising stock price. If the index is falling, but the stock isn't falling as much, the relative strength line will appear to slope upward.
- Support is the price at which a stock stops falling when buyers outnumber sellers. Technical analysts check a chart to see where the stock has bottomed in the past. A stock that falls below its historical support generally is viewed bearishly (negatively).
- Resistance is the upper limit in a stock's historical trading range. It's considered a bullish sign when a stock climbs above its resistance level. IBI
