Technical Analysis – Intro

Technical Analysis

Hello Traders,

If you already have a basic understanding of Technical Analysis (TA), please skip this blog. But understanding this is essential before proceeding to learn about the AmiBroker Plugin.

How do you decide on buying/selling?

There are people who trade just based on their gut, but it is important to have a system for making an analysis before deciding to buy/sell a stock. If your analysis is based on the general economy, financial statements, competitor analysis, etc., we call it Fundamental Analysis.

For example, you predict that interest rates are going down, because of which you assume that the number of cars that will be sold next year will be higher. Based on this fundamental analysis, you decide to buy Maruti stocks. The issue with fundamental analysis is that it takes a long while to play out. For example, in the above case, you would probably have to wait for a couple of years for the price to appreciate based on your analysis. Also, because you are making a decision based on the information that you receive, you can’t be sure that you know most. There are always people who have more information than you, not an ideal scenario as your odds of winning go down.

Technical Analysis

Technical Analysis (TA) today is the most popular method of stock analysis used by traders/investors across the world. Unlike Fundamental Analysts, Technical Analysts believe that all information is already reflected in the price of the stock. Investor/Trader reaction to price movements leads to recognizable price chart patterns.

To give you an analogy, palmistry works on similar principles. Valmiki is supposed to have studied over a million palms before writing a book on palmistry millions of years ago. For example – we have a lifeline on our palm and the longer it is the longer we are supposed to live. How does a palmist come to this conclusion? Valmiki studied a million palms and found that the probability of a person living longer is higher if the life line is longer, hence the palmist takes a bet based on the fact that the probability is higher.

Similarly, in Technical Analysis you look at the price patterns on the chart and based on the analysis of past price data, you take a bet on the direction of the stock for the future. Technicians (people who follow TA) employ many techniques.

Let me explain the simplest one for you. I have pulled the following chart from Wikipedia:

Sample Chart

The above chart basically shows the movement of the stock for 18 months. Let’s analyze the same:

• If we start from the left, you will see that once the stock goes to 109, it comes down all the way to 105. Because the stock had trouble crossing 109, we call it as a resistance.
• As you will see at Point 2, the same price again acts as a resistance and the stock goes down to 107 after hitting 109. But just after Point 2, the stock manages to cross the resistance of 109 and a breakout happens. A breakout is basically when a resistance is taken out and there is a sudden price increase.
• As you will see the price moves from 109 to 113.5 swiftly after which it again comes down. So Point 3 becomes a new resistance. After hitting the resistance at 3, the stock comes down back to 109 at 4.
• Since 109 was a resistance when the stock was moving upwards, it now acts as a support on the way down. The way it took a while to break 109 upwards, it will not break 109 very easily downwards. A technician following the above principle of resistance/support line, will basically buy anytime a breakout happens above the resistance line and sell whenever a breakdown happens below the support line.

Technical Analysis is an ocean of various such studies. Some of them are candlestick charting, Elliot wave analysis, moving averages, etc. The internet is the best resource for a person looking at honing his skills on technical analysis as there are various websites/blogs that discuss/educate you on this.

One of the most important requirement for a Technician is a charting platform – a platform that can show a chart similar to the one above. It is also important that the charting platform comes with the ability to add various indicators such as RSI, Moving Averages, Volume, etc.

Zerodha Trader, our software-based trading platform, comes with the NEST Plus (Starter) charting tool pre-loaded completely free of cost. Check out this blog to see how to use the Starter Pack.

Once you get proficient with Technical Analysis, you will want to have a charting platform that can do much more than what the charting tool on the NEST Starter Pack can do. This is where AmiBroker comes into the picture.

Please read the next blog on the “Basics of AmiBroker”

Happy Trading,

Nithin