CHAPTER 2- THE TREND BASIC PRINCIPLE OF TECHNICAL ANALYSIS Flashcards
How Does the Technical Analyst Make Money?
In order to make money using technical methods, remember:
• “The trend is your friend”—play the trend.
• Don’t lose—control risk.
• Manage your money—avoid ruin.
What Is a Trend?
A trend is a directional movement of prices. For a trend to be useful, it must remain in effect long enough to be identified and still be playable. An uptrend is a rising trend; it occurs when prices reach higher peaks and higher troughs. A downtrend occurs when prices reach lower troughs and lower peaks. A sideways trend, or flat trend, occurs when prices trade in a range, moving up and down, but remaining at the same level on average.
How Are Trends Identified?
Analysts often use moving averages to identify trends. Trends can also be identified by drawing lines between extreme points on price graphs. Another, but less practical, method of determining trends is using linear least-squares regression.
Why Do Markets Trend?
Price is the result of the interaction of supply and demand. A change in price is, therefore, due to a change in supply or demand. Rather than focusing on the indeterminable reasons why supply and demand might be changing, the technical analyst watches prices themselves for evidence of change.
What Trends Are There?
The fractal nature of trends refers to the fact that trends act similarly over different length periods. Long, medium, or very short periods produce trends with the same characteristics and patterns. Technical analysts divide trends into several broad categories: the primary trend (measured in months or years), the secondary trend or intermediate trend (measured in weeks or months), the short-term trend (measured in days), and the intraday trend (measured in minutes or hours).
What Other Assumptions Do Technical Analysts Make?
The basic underlying theory of technical analysis is that markets trend. In addition, technical analysts assume:
Price is determined by the interaction of supply and demand
Price discounts everything
Prices are nonrandom
Prices form recognizable patterns
Price patterns are fractal
Prices reflect emotions, such as fear and greed, and emotional feedback causes “bubbles” and “panics.”
Define primary, secondary, short-term, and intraday trends.
For identification purposes, technical analysts have divided trends into several broad categories. These are the primary trend (measured in months or years), the secondary or intermediate trend (measured in weeks or months), the short-term trend (measured in days), and the intraday trend (measured in minutes or hours).
Which of the following best describes an uptrend?
a. A movement of prices characterized by higher and higher peaks and lower and lower troughs
b. A movement of prices characterized by lower and lower peaks and higher and higher troughs
c. A movement of prices characterized by higher and higher peaks and higher and higher troughs
d. A movement of prices characterized by higher and higher peaks with no troughs
Answer c.
The secondary trend
a. Is measured in weeks or months.
b. Is always in the same direction as the primary trend.
c. Is of no importance to the technical analyst.
d. Is determined by fundamental factors rather than supply and demand.
Answer a.
Which of the following is NOT a basic assumption made by technical analysts?
a. Prices trend.
b. Prices are random.
c. Patterns are fractal.
d. Price is determined by supply and demand.
Answer b.
Technical analysts divide trends into broad categories including
a. Primary, secondary, and short-term trends.
b. Main, subordinate, and intraday trends.
c. Primary, fractal, and emotional trends.
d. Supply, demand, and behavioral trends.
Answer a.
A ____________ occurs when price moves up and down within a range, but remains, on average, at the same level.
a. Fractal trend
b. Secondary trend
c. Primary trend
d. Sideways trend
Answer d.
Long and short periods tend to produce trends with the same characteristics and patterns due to the
a. Fractal nature of trends.
b. Random nature of prices.
c. Secondary trend acting counter to the primary trend.
d. Dominance of supply over demand in determining prices.
Answer a.
Which of the following would you be most likely to hear a technical analyst say?
a. “Price movement is random.”
b. “The primary trend should be ignored so that the investor can concentrate on the secondary trend.”
c. “Price is determined by demand rather than by supply.”
d. “Human decisions are affected by two basic emotions: fear and greed.”
Answer d.
According to technical analysts, stock prices are determined by ______ and _______.
a. Randomness; fractal motion
b. Fear; randomness
c. Supply; demand
d. Demand; long-term trend
Answer c.
