So this is Step One, good work on visiting the CHART TOOLS & Basic T.A. page on MoneyJog.com.
I encourage you to first read this page, noting significant events under each section. Then actively mess around with the tools on many different companies and see if you can spot the significant events on the charts. Then RE-read this page WHILE working with the tools until you fully understand what you are looking at using MoneyJog.com’s CHART TOOLS & Basic T.A. page as a guide for identifying significant events.
To complete Step One: Finish reading through this page and continue to Step TWO.
Hint: Read carefully, and remember EVERYTHING as you READ. If you don’t understand everything, you can always come back to this page for a little brushing up on your CHART TOOLS & Basic T.A. in the future.
ALSO: NEVER copy and paste. Ever.
So when it comes to stocks, investing, or trading… however you want to call it, we know there are two major ways of looking at and analyzing stocks. These two ways of course are FUNDAMENTALS and TECHNICALS. I wanted to give a brief insight into another world of analyzing stocks. This is a brief and simple guide to some technical aspects of stocks.
Where fundamentals are very useful in determining which company has a strong balance sheet, and other financial aspects…technical analysis allows us to time purchases and sales of equities (stocks) better. Technical analysis is not only useful in revealing when it’s a good time to buy or sell, but is also used for identifying underlying trends in price movement. Here are a few simple tools too also consider past the fundamentals of a company.
RSI (Relative Strength Index)
RSI is a momentum oscillator which measures the speed and price movement in a stock. An RSI may range from 1-100. Generally a stock with an RSI of 70 or greater can be considered overbought. If a company is considered OVERBOUGHT you should consider twice the order you’re about to make. An RSI reading 30 or below is considered to be over sold. If a company is considered OVERSOLD then consider it a discount on your purchase. An RSI reading of 50 or around 50 may indicate that the stock is fairly priced. RSI is available on most charts you can find. Here is an example of an RSI from Panera Bread (PNRA)’s 6 month chart.
Here you can see how the RSI reflects price movement. When RSI is high (over 70) the price is likely to recede or fall. When RSI is low (below 30) there is a greater chance for prices to rise. Simple. Here is the same chart with identified opportunities.
Also look for changes in trends when the RSI crosses the 50 range (50 on the RSI is considered fair value, or a completely reasonable price to purchase at). For example at C1 RSI crosses the 50 mark and later settles above the 50 mark. This is a bullish signal (when RSI crosses from below 50 to above 50 and settles over 50). Again at C2 the price looks as though it might fall through the 50 mark (50 on RSI also considered fair value), but the RSI remains stable at fair value, and does not fall below 50 on the RSI. This again, is a bullish signal.
Now you could in theory trade on all of these signals (the RSI signal is OVERBOUGHT and OVERSOLD. 70 and 30 respectively)… Or you could look at the fundamentals of a sound company and use the RSI to help you buy at opportune moments. That way you are buying at reasonable prices. This could over time help to build stronger positions in companies deemed strong by their fundamentals.
Moving Averages, Converging Averages, Crossing Averages.
A moving average is a technical tool that is simple and easy to read. The moving average line represents the average price of that equity (stock) over whatever time frame you declare. The most frequently used MA (moving average) lines are 20 days, 50 days and a 200 day moving average, all in conjunction with each other (use 3 MA lines together). Here is a 1yr chart of Hewlet Packard (HPQ) with 20, 50 and 200 day moving averages.
The light green line is a 20 day moving average, the blue line is a 50 day moving average, and the teal or turquoise colored line is a 200 day MA. Though the colors may vary depending on what your looking at, use all three MA lines in conjunction with each other.
During the first few months of the chart (Jan. through mid Feb.) the 20 day MA was parallel to the 50 day MA. The price of the stock held stable around its 20 day MA and the 20MA held strength above the 50MA. This is a good upward trend (when the 20MA is above the 50MA). In late January we can see the price start to break down. First the price falls below its 20MA (the first sign of price breaking down). Then below its 50MA. This is a bearish signal and if it crosses its 200MA the bearish trend can be confirmed. After it fell below it’s 50 MA (moving average), we see that it quickly made a run back up to its 50MA (the blue line). If you had RSI showing I’m sure it would signal that it was oversold right before this run back up to it’s 50 MA. The price crosses slightly above the 50 MA as it retests its trend. It then crosses slightly below its 50MA, and then stabilizes above the 50 day MA indicating its momentum to push higher. It is always important when a stock’s price comes within range of a moving average, and more important when the stock price CROSSES a moving average. Again in late April we see that the price began to break down again as it tested its 20MA (green line). Price falls slightly below the 20 MA, retests slightly above the 20 MA, and collapses as buyers are exhausted and the price moves lower to test its 50MA (dark blue). It quickly crosses that average (a pessimistic outlook) and quickly retests it spiking back up to the 50MA. However the price does not have strength to finish above the 50 MA (blue line) and it moves lower to test its 200MA. The price moves rapidly (from the 50MA to the 200MA price may move rapidly)… likely from the recent failure to stabilize above the 50MA that we just discussed. As price sharply fell through the 200 MA, this immediately would call for a bearish signal as it did not test the 200 MA ABOVE it, but fell below it to test the 200 MA from below. The stocks price tests the 200 MA spiking back up to the 200 MA line. Unable to settle above the 200 MA, the stock moves lower and can be considered to be in a bearish (downward) trend.
Crossing below a MA is most often a pessimistic sign. Crosses above MA’s are more optimistic. Crosses below the 200 day moving average may be a serious trend reversal and you should be highly cautious in purchasing such a stock.
When dealing with technical analysis, time frame becomes very important. Do not use a 10 day chart to analyze a long term position (by long term I mean 3-6 months even though this is technically not considered “long term” in the financial world).
Above is a 6 month chart of PNRA (Panera Breads). It is a good example of converging and diverging moving averages (MA’s). When the moving averages converge, they move closer together and almost overlap each other. This is viewed as price becoming stable. Converging moving averages means price is becoming stable. If you don’t believe me, here is the RSI for the above 6 month chart…
From mid July to mid August, RSI was near 50 as the moving averages converged. The converging moving averages is considered to be a bullish signal, as price is becoming more STABLE. Following most converging moving averages, comes the diverging moving averages. As the stock’s price is more stable, and becoming ever more bullish… the price starts to see positive movement. This positive movement from a stock becoming stable, causes the averages to rise as the price rises. In the section labeled diverging moving averages, you can see the 20 MA has settled above the 50 MA, and the 50 MA has settled above the 200 MA. This order of moving averages is bullish. A bullish signal when looking at moving averages is when you see the averages are diverging in the 20, 50, 200 MA order. This is a bullish trend, and is also the sweet spot for building strong positions. I say it’s the sweet spot because it is easy to tell how strong a stock is, and when it’s weakening in price. If price falls below the 20 MA, but is still above the 50MA, you should consider expanding your position. It is easy to tell when a stocks price is ready to break down when it’s moving averages are in a diverging situation. Consider price to be breaking down when price falls below the 20 MA. As long as price remains above the 20 MA (with a diverging MA pattern), you are in a very SAFE position.
MA (moving average) Envelope
The MA Envelope is a tool that helps indicate when a stock is likely to move higher, and when it may collapse. On this 6m chart of Apple Inc (AAPL) the MA envelope is the red lines (color may vary) that in a sense channel above and below the stock. When working with a MA Envelope, you want to see the stocks price “bump” the bottom or top of the envelope. A bump on (or below) the bottom of the envelope gives strong support that the stock is likely to rise quickly from this level. Vice versa, a “bump” on the top (or above) may signal the stock to go lower. Look at the chart and it is not hard to see the best times to buy (that is bumps along the bottom are the best time to buy).
Also those points could often be found on the RSI. When the RSI is below 50, it’s an undervalued stock price. Do you see how when price touches (or goes past) the top of the envelope, the price often recedes a little afterward? Do you see how when price touches the bottom of the envelope the price often rises afterward?
If you look up AAPL and put 20, 50, 200 MA lines on it you will see another example of converging and diverging MA patterns. I’ll do the work for you so you don’t have to go look it up…
Parabolic SAR
The parabolic SAR… SAR an anagram for “Stop And Reversal”. This tool helps identify what the current trend is for a stock, and……. When that trend STOPS…… and Reverses. Here is a Parabolic SAR on a 6m chart of AVY.
When the + (sometimes just a dot) is above the current price, the Parabolic SAR considers a down trend likely to start or having already started. Just the opposite, if the + is below the stock’s price… the stock is considered to be up trending. This tool is useful in quickly identifying if a company is up trending or down trending. The + above the actual price signals a down trend to be eminent. The + below the actual price signals an up trend to be eminent. This is a useful tool when trying to identify the top or bottom of the current trend. If you happen to see a few + marks starting to appear above the stocks price you may want to take more caution with your position and monitor it more diligently as the Parabolic SAR is signaling a trend reversal. And if it’s signaling + marks above the price that means its signaling to go lower, so proceed with caution and watch your position for any break down in price if this happens.
Bollinger Bands
Bollinger Bands are volatility bands placed above and below a moving average. Volatility is based on the standard deviation, which changes as volatility increases and decreases. The bands automatically widen when volatility increases and narrow when volatility decreases. Here are the bands on a 6m CMG chart…
On the price chart… Where circled is a phase of low volatility in the price of CMG. If you could see the chart, the low volatility is where the bands are closer together (kind of like converging MA lines). Bollinger Bands are most often used to identify M tops and W bottoms (two simple chart patterns), and when a stock is ready to break through such patterns. Really not that useful unless you are familiar with technical patterns… which there are A TON of… and they are very hard to find or plot. But if you look at the RSI on this chart… regions circled would have been good buy opportunities as RSI was at or below 50 and you could have built a 3x larger and stronger position in CMG from building your position off the RSI.
Congratulations! You (hopefully) carefully read through this page.
Hopefully you where able to:
- Identify RSI below 30 as OVERSOLD
- Identify RSI above 70 as OVERBOUGHT
- Identify RSI at or around 50 as FAIR VALUE
- Identify opportune purchase point’s using the RSI tool.
- Use 3 MA (moving average) lines in conjunction with each other.
- Identify up/down trends using MA lines. Up trend = diverging MA’s in 20, 50, 200 order. Down trend = Price falls to or below a MA line.
- Notice the importance of a stocks price CROSSING a MA line. Price crossing over or below a MA line is very significant.
- Note the significance difference’s between a 10 day chart and a 6 month chart.
- Use the MA Envelope tool.
- Identify with the MA Envelope tool: “bump’s” on the MA Envelope.
- Note any correlations between the MA Envelope “bumps” and RSI.
- Use the Parabolic SAR tool.
- Identify when a stock is considered to STOP and REVERSE using the Parabolic SAR tool.
- Use the Bollinger Bands tool.
- Identify periods of low volatility using the Bollinger Bands tool.
- Identify periods of high volatility using the Bollinger Bands tool.
- Learn how to look up a companies chart using the internet.
- Learn how to view these 5 tools on a chart.
- Gained an insight to the simplicity of the complexity of it all.
- Start saving cash money to invest, practice, and play with.
If you have read this page CAREFULLY (!!) and spent time looking at charts and using these 5 SIMPLE tools… Then you should be ready for Step TWO. If you are not comfortable moving on to Step TWO, then please learn MORE about these 5 tools and practice identifying significant events.
If you are ready for Step TWO… please continue to the Practice With Charts page.
**All charts are from TD Ameritrade. Some charts have been altered by MoneyJog.com for explanation of the tools.