If you are a trader or an investor in the Indian share market or any form of equity market, you should consider learning at least the basics of technical analysis. But what is the technical analysis of stocks? To put it in simple words, technical analysis of stocks refers to forecasting the future performance of the company’s stocks by analyzing their historical data that consists of several components such as market data, price and volume. The purpose of performing technical
analysis is to give stock market traders insights about the future price of the stocks by studying their past behavior.
There is also another form of analysis called the fundamental analysis. While technical analysis believes in studying the past price chart patterns to predict future stock prices, fundamental analysis ignores chart trends and lays focus on an organization’s financial, economic and management policies and industry statistics to forecast stock prices. Fundamental analysis is highly recommended for investors who focus on long-term investment whereas technical analysis is more useful for traders who strictly have short-term investment goals.
To get a deeper understanding of technical analysis there are a few assumptions which we need to reckon. If we fail to consider these assumptions, our analysis can be misleading leaving us with incorrect stock predictions.
Let us look at these assumptions:
1. Stock Market & Reflection of Known Information
According to this notion, all the components that can have an impact on the stock prices have already been brushed off in the current situation. Thus, we can safely assume that the current stock price is neither underpriced nor overpriced.
2. Price Movement Prediction
Now we know that stock price movement has no particular pattern but this theory defies that logic and states that it is possible to predict and chart any stock’s price movement. This assumption states that once you thoroughly understand the stock market you can easily strategize buying stocks at a lower price and selling them when the prices scale upwards.
According to this theory, it is assumed that from time to time marketers similarly react to stock price movements and that is because the stock market trend tends to repeat itself.
4. Focus on Short Period
As we mentioned earlier, the primary focus of technical analysis of stocks is to aim at concentrating on shorter time durations that can be a month-long or even a minute shorter. Unlike fundamental analysis where investors venture into long-term investment, technical analysis prioritizes quick buying and selling of stocks thus focusing on short-term investment.
5. Charts and Graphs for Stock Price Trends
Charts and graphs in technical analysis are brought in to understand and read spot price trends. Charts play a pivotal role in aiding traders to understand the trend in price movement. Graphs and charts help us predict whether the current stock price is heading upwards or downwards.
A market situation where stock prices falter continuously is referred to as downtrends. In a downward trend, investors abstain from buying stocks and wait for the prices to rise a little to sell off all their existing lot of stocks.
7. Horizontal trends
In technical analysis, horizontal trends are chart patterns formed by drawing trend lines for both high and low prices on a chart. Here the market situation is unpredictable and in such uncertain trends, traders are not sure whether to purchase or sell a particular stock.
8. Support and Resistance
In technical analysis of stocks, support refers to a downward trend where marketers buy stocks as their prices begin to go down. On the other hand, resistance refers to a point where the stock is at its highest price point before the traders start selling and the stock prices begin to go down again.
9. Trade Volume
If you want to thoroughly study the movement of the stock trend, you need to keep a close tab on the volume of trades. For example, if there is an increase in volume because of an increase in stock price then the stock trend is valid. However, if it is just a minor change in volume then it may be because of a reverse trend.
10. Use of Moving Average Technique
This technique is useful for predicting a long-term investment. Moving average techniques trend indicators give us a concise and clear image of the market trend.
11. Indicators and Oscillators
Indicators are calculations of technical analysis where analysists apply various mathematical formulae to prices and volumes. An oscillator is a technical analysis indicator that is used to discover short-term overbought or oversold stocks.
Analysis of Stocks
While doing technical analysis of stocks, you can use four different types of charts:
Line charts are poised of one single line from left to right that links the closing stock prices at each specified time interval.
Bar charts are used to depict the opening, closing, high and low stock prices of the day.
Today, candlestick charts are widely used by traders as they utilize the opening, high, low and closing price data per specified time interval to produce a candlestick, which is plotted on a price chart.
Point and Figure Charts
Point and figure charts consist of Xs and Os that depict stock price movements in various directions. Here X refers to the rise in price whereas O refers to the decline in price.
Technical analysis of stocks can get tricky and confusing at times. Hence, it is necessary to understand the details meticulously to gain maximum profits from your stock investment.