Lecture 3 (history and construction of charts, trends, breakouts, stops) Flashcards
What are the 4 types of charts?
1) line chart
2) bar chart
3) candle chart
4) Point and figure chart
What are the 5 types of data needed to construct most charts
-open price
-high price
-low price
-close price
-volume
What does a line chart use and name one advantage and disadvantage of this chart
-uses closing price and time
ADV: easy to construct and maintain
DISadv: gives little info, exact time or trend change can be unclear
What does a bar chart display and name 2 adv and 1 disadv of this chart
-displays the high, low, closing prices or HLC
ADV:
-HLC can give you a better sense of direction
-More versatile, volume usually included below
DISadv:
-harder to maintain and requires more space if done by hand
What are the two aspects shown on a candlestick chart and name 1 adv and disadv of this chart
Shows the real body (the rectangular box) and the shadow (price extremes)
ADV: more visual, positive and negatove easily seen
DISadv: harder to calculate and maintain by hand, patterns must be studied
When is a logarithmic chart best used
for long term charts and for >20% increase in security values
What is a directional trend
A trend that shows rising or falling prices, from which a profit can be made with a trend following method
What is the famous phrase about trends
Trends tend to continue rather than reverse
If an investor was to zoom into a trend, what would he find
A large primary trend is made up of samller intermediate trends, which is made up of even smaller minor trends, meaning that these same trends are made up of the same trend patterns though at a much smaller degree, such as to the minute
If buyers are more aggressive what kind of trend can this show?
A uptrend (demand > supply)
If sellers are more aggressive what kind of trend can be seen?
A downtrend (demand < supply)
Are trends ever straight lines?
No
What makes the price oscillate back and forth in the general direction of the larger trend?
The people who are willing to bet against the general trend of prices
When does trading ranges (or sideways trends) occur?
When peaks and throughs appear at roughly similar levels
What is it called when prices have been rising and then reverse downwards? What is the highest point called?
The highest point is called the peak which is referred to as the resistance level
When does a resistance level become a resistance zone and what can be said about support levels
when more than one resistance level occurs at roughly the same price (acts as if its a ceiling and seems to block the price from going higher). This same “theory” can be said about support levels
Once the price breaks the support or resistance zone, what happens?
They switch functions/roles. The resistance price level becomes the support level or vice-versa
What can be said about prices when they are at round numbers
when prices are at round numbers, there is more tendency to buy and sell, because people tend to think in terms of round numbers
What is called when prices break below a support zone or above a resistance zone
It is called a breakout
When do you buy in a breakout?
When the price goes above resistance
What is the Donchian rule?
Buy when the highest price over the past 4 weeks has been broken, and sell when the lowest low over the past four weeks has been broken
What is the Demark method in reversal points
In a low bar, we’d look for 2 bars with higher lows on both sides of the suspected through bar. The same can be said for resistance point or peak, we’d look for 2 bars with lower highs one both sides of the peak
What is the Gann two-day swing method in reversal points
-To find a support point, or through, a low bar is identified. Once it is identified, the following 2 trading days are observed. If these 2 days have higher highs than the low bar, then we’d consider the low bar a support point
-The opposite is true for a resistance point or peak. The high bar is followed by 2 successive bars with lower lows
What is the High volume method in reversal points
-high volume on the reversal day, indicates that larger than usual activity occurred on that day - ultimately stopping the rally or sell off. This is a strong indication that a previous trend will be broken
What can be said about the steepness of a trend
The steeper, the more powerful the trend is. The problem with this is that it is not sustainable to have such a steep trend which could make us expect a reversal in the trend if it gets too overheated
What can be said about an uptrend that are bigger or equal to 45 degree angle
An uptrend that is steeper than 45 degrees is over heated and should expect to correct
What are the two ways trends are spotted?
1) using regression lines
2) using trend lines
How is a regression line made and how can it be used?
-We would run a regression to determine the mathematical equation that would minimize the distance between all data points and the theoretical line, to find the BEST FIT line.
-We can use the stand dev around this regression line to help encompass most of the data. The prices outside this stand dev would be ignored.
Do TA’s use regression line? If not, what do they use?
They dont use regression line, instead they draw a trendline after 2or more touch point
How are trend lines drawn?
-The lines are drawn between lows (support points) when the line is rising (uptrend)
-The line is drawn between tops (resistance points) when the price is declining (downtrend)
What is an issue with trend lines?
They may not always be a straight line. Often prices, especially in speculative bubble or in a panic, will accelerate upward or downward and run away from a straight trend line
What is the opposite of a accelatring trend line? What is it called?
The opposite of an accelerating trend line is called a decelerating trend line, which can also be called a fan line
What are fan lines?
Fan lines are regular trend lines that are being broken without any obvious reversal in direction and then being redrawn to account for each new support level
What is a general rule of fan lines?
After 3 fan lines are drawn, we should expect a reversal of direction
Explain the 2 general rules about trend lines
1) The longer and the more times that the drawn line is touched by prices, the more significant it is when the trend line is finally broken
2) the steeper the trend line, the more unsustainable it is, the sooner it will be broken
What are retracements? What is their movement in an uptrend? WhT is their movement in a downtrend?
They are the correction to the principal trend. They counter trend moves (down in an uptrend. Up in a downtrend)
What can retracements do for investors?
Can be investors a second chance for those who missed the earlier stages of the trend - a second chance to buy or sell in a downtrend
What are the 2 variations of a retracements and when do they occur
1) Pullbacks
2) Throwbacks
-These two variations occur after a breakout in a horizontal or resistance zone
Describe a throwback
It is a price retracement back to the breakout zone on an upward breakout
Describe a pullback
It is a price retracement back to the breakout zone on a downside breakout
When would you say breakouts occur
They occur when price breaks the resistance or support level/zone/trend line
What do breakouts signal?
Signals a change in supply and demand and that a new trend in beginning
What are the 5 breakout confirmation methods
1) Closing price (filter)
2) Price or percent filters
3) Time since breaking support/resistance
4) Volume
5) Volatility
What is closing price (filter) in terms of confirmation methods
Tradeoff between probability vs. opportunity
What is Time since breaking support/resistance in terms of confirmation methods
Idea that if prices remain outside the breakout zone for a certain time, it must be real
2 days +
What happens to the daily true range as price volatility goes up?
The true range will expand and ATR will be larger
What are pivot points
Pivot points are used for confirmation with day trading to determine support/resistance level and as confirmation of breakouts
Can you anticipate a breakout?
Sometimes
What do moving averages serve for in TA
Moving averages are used to smooth erratic data and show trends
What are 2 conclusions that can be made with LONGER simple moving averages (SMA)
-the less influence each data point has on the SMA
-the slower is it to change direction but the more reliable it is
What can be concluded with SHORTER SMA
the faster it changes directions but more frequently it errors.
Name 3 aspects of crossover signals using more than one SMA
-Shorter SMA to longer SMA - crossover suggests change in trend
-Crossover points often turn into support and resistance levels
-Never to be used in a sideways market
What does exponential moving average (EMA) use in terms of data
-the most recent data has the most effect on the average. Old data is less important
What can said about the difference in results between SMA and EMA
The difference in results are found to be very small
What are the 3 uses of moving averages
1) Determining trend, direction of and slope of moving average
2) Support and resistance
3) Price extremes
How are envelopes percentages calculated and when are they used
-calculated as taking a percentage of a moving average and creates two symmetrical lines
-the percentage is determine by experiment and shouldn’t be too large or small
-Used in trading ranges
What does crossing bands in envelopes percentage suggest
It is a trigger for buy/sell
What is a big issue with envelopes percentage
it does not account for the changing volatility of the underlying
What are bands
Same as envelope but adjusted for volatility (stand dev)
What is channel
Trading range tipped at an angle such that it trends up/downwards
What are the 5 aspects to keep in mind on how to use bands and envelopes
1) Tightening bands represent shrinking volatility, sharp price move expected
2) Broadening bands represent increasing volatility and potentially strong trend
3) When outer edge of a band is broken, empirical evidence suggests buy the breakout, just like you would do with a broken resistance
4) MA can become stops, or support resistance
5) Calculate %B (bandwidth indicator): difference between high band and low band, which represents increased volatility; breakouts can be confirmed with this, therefore volatility can warn of trend change
