Technical Analysis

Prepared by

Milesh Lama
Trading Mantra
Share Knowledge Nepal
 Technical Analysis
• A process of identifying trend reversals at an earlier
stage to formulate the buying and selling strategy.

• Technical analysts study the relationship between

price-volume and supply-demand for the overall
market and the individual stock.

Assumptions
• The market value of the scrip is determined by the
interaction of supply and demand.

• The market discounts everything.

• The market always moves in trend.

• History repeats itself. It is true to the stock market

also.

Origin of Technical Analysis

• Technical analysis is based on the doctrine given by
Charles H. Dow in 1884, in the Wall Street Journal.

• A. J. Nelson, a close friend of Charles Dow

formalised the Dow theory for economic
forecasting.

• Analysts used charts of individual stocks and moving

averages in the early 1920s.

Dow Theory
• Dow developed his theory to explain the movement
 of the indices of Dow Jones Averages.
• The theory is based on a certain hypothesis:
The first hypothesis is that no single individual or buyer
can influence the major trend of the market.
The second hypothesis is that the market discounts everything.
The third hypothesis is that the theory is not infallible. •
According to Dow theory the trend is divided into 
Primary
 Intermediate/Secondary
 Short term/Minor
Primary Trend

• The security price trend may be either increasing or

decreasing.
• When the market exhibits an increasing trend, it is called
‘bull market’ and when it exhibits a decreasing trend it
is called ‘bear market’.

Bull Market & Bear Market

Bull Market
• The bull market shows three clear-cut peaks.
• Each peak is higher than the previous peak.
• The bottoms are also higher than the previous bottoms.
 Bear Market:
●The market exhibits a falling trend.
●The peaks are lower than the previous peaks.
●The bottoms are also lower than the previous
bottoms.
 The Secondary Market
• The secondary trend or the intermediate trend moves
against the main trend and leads to correction.

• The correction would be 33% to 66% of the earlier

fall or increase.

• Compared to the time taken for the primary trend,

the secondary trend is swift and quicker.
 Minor Trend
●Minor trends or tertiary moves are called random
wriggles.
●They are simply the daily price fluctuations.
●Minor trend tries to correct the secondary trend
movement.
 Trend lines: Drawing & Trading
● Trendlines indicate the best fit of some data using a
single line or curve.
● A single trendline can be applied to a chart to give a clearer
picture of the trend.
● Trendlines can be applied to the highs and the lows to create a
channel.
● The time period being analyzed and the exact points used to
create a trendline vary from trader to trader.
Support and Resistance Level
• A support level exists at a price where considerable
demand for the stock is expected to prevent a further fall
in the price level. In the support level, the fall in the price
may be halted for the time being or it may result even in
price reversal.
• If the stock goes down to a certain level and then rises there
exists a support level. If the price goes below the support
level , it means that the selling pressure has overcome the
buying pressure and the price may fall further.
• At the resistance level, the supply of scrip is greater than
the demand and further rise in price is prevented. Selling
pressure is greater and the increase in price is halted for
the time being.
• When the stock touches a certain level and then drops, it is
called the resistance level. If the price moves above the
resistance level it means that the buying pressure has
overcome the selling pressure and the price may rise
 further.

Retracement, Consolidation, Breakout & Price-Action

Trading
In the financial market, there is a saying, “Trend is
your friend.” When the price makes a strong move
towards a direction breaching a significant level of
support/resistance, traders start looking for
opportunities to take entries. The word ‘opportunity’
signifies a lot. After making a strong move, the price
usually makes a correction/consolidation. At the
correction/consolidation, the price finds a level of
support/resistance. This is what gives a good risk-
reward ratio to traders. In the end, it brings more
winning trades, as well. In this lesson, we are going
to demonstrate how a retracement gives us an entry.
 Pivot Point
● Pivot Point : It is a technical analysis
indicator used to determine the overall trend of
the market over different time frames.
● The pivot point itself is simply the average of
the high, low and closing prices from the
previous trading day.
● On the subsequent day, trading above the pivot
point is thought to indicate ongoing bullish
 sentiment, while trading below the pivot point
indicates bearish sentiment.
● A pivot point and the associated support and
resistance levels are often turning points for the
direction of price movement in a market.
● In an up-trending market, the pivot point and
the resistance levels may represent a resistance
level in price above which the uptrend is no
longer sustainable and a reversal may occur.
● In a declining market, a pivot point and the
support levels may represent a low price level of
stability or a resistance to further decline
 Pivot level Calculation
• Standard Pivot Points:
• Pivot = ( H + L + C ) / 3
• R3 = H + 2( Pivot – L)
• R2 = Pivot + ( H - L )
• R1 = ( 2 x Pivot ) - L

• S1 = ( 2 x Pivot ) – H
• S2 = Pivot - ( H - L )
 • S3 = L - 2( H - Pivot )
5-day pivot point chart of a stock for intra-day trading in October 2009

Monthly pivot point chart of the Dow Jones Industrial Average for the first 8 months of 2009, showing sets of first and second
levels of resistance (green) and support (red). The pivot point levels are highlighted in yellow. Trading below the pivot point,
particularly at the beginning of a trading period sets a bearish market sentiment and often results in further price decline, while
trading above it, bullish price action may continue for some time
 Gaps
• Gaps are those points or price levels where the
scrip has not changed hands. They are formed
 in rising or falling price levels.
• If the prices are moving upwards and the high
of any day is lower than the next day’s low, a
gap is said to have occurred.
• Similarly, if the prices are falling, a gap is
formed if the low price on one day is higher
than the high price of the next day.
Gap up
Gap Down
 Line Chart
• The most basic of the charts is the
line chart. It represents only the
closing prices over a set period of
 time.
• The line is formed by connecting the
closing prices over the time frame.
• The closing price is often considered
to be the most important price in
stock data compared to the high and
low for the day and this is why it is
the only value used in line charts.

Bar hart
● The bar chart is made up of a series
of vertical lines that represent each
data point.
● This vertical line represents the
 high and low for the trading period,
along with the closing price.
● The close and open are represented
on the vertical line by a horizontal
dash. The opening price on a bar
chart is illustrated by the dash that
is located on the left side of the
vertical bar.
● The close is represented by the dash.
Chart pattern
• A chart pattern is a distinct formation on a
stock chart that creates a trading signal, or a
sign of future price movements. Chartists use
 these patterns to identify current trends and
trend reversals and to trigger buy and sell
signals.

V Formation
As the name indicates in the V formation there is a long sharp decline and a fast
reversal. In the V pattern the market interest changes quickly from hope to fear
and vice versa. In inverted V first the price rise occurs and then it declines
 Tops and Bottoms
● Tops and Bottoms are formed at the beginning or end of a new
trend. The investor should buy at the bottom and exit before the
top has been reached.
● Double Tops and Bottoms
This chart pattern signals a trend reversal - it is considered to be
one of the most reliable and is commonly used. These patterns are
formed after a sustained trend and signal that the trend is about to
reverse. The pattern is created when a price movement tests
support or resistance levels twice and is unable to break through.
This pattern is often used to signal intermediate and long-term
trend reversals.

● In the case of the double top pattern , the price movement has
twice tried to move above a certain price level. After two
unsuccessful attempts at pushing the price higher, the trend
reverses and the price heads lower.
● In the case of a double bottom , the price movement has tried to
go lower twice, but has found support each time. After the
second bounce off of the support, the security enters a new trend
and heads upward.

Head and Shoulders

• This is one of the most popular and
reliable chart patterns in technical
analysis.
• In the head and shoulder pattern
there are three rallies resembling
the left shoulder, a head and a right
shoulder. A neck line is drawn
connecting the lows of the tops.
• When the stock price cuts the
neckline from above it signals a
bear market. Head and shoulders top is a chart pattern that is formed
at the high of an upward movement and signals that the upward trend is
about to end.

Inverted Head and

Shoulders
• Inverted head and shoulders is
used to signal a reversal in a
downtrend.
• The price of the stock falls
and rises which makes an
inverted head and shoulder.
The tops of the inverted head
gives the neckline.
• When the price pierces the
neckline from below it
indicates the end of bear market
and the beginning of
the bull market.
Rounding Bottom
• A rounding bottom is a long-term
reversal pattern that signals a
shift from a downward trend to
an upward trend. This pattern is
 traditionally thought to last
anywhere from several months to
several years.
• It is U shaped and elongated
• The bottom low has to be a new
low
• The decline and rise should take
equal time
• The breakout should be higher than the
beginning of the decline.
Cup and Handle
● A cup and handle chart is a bullish
continuation pattern in which the upward
trend has paused but will continue in an
upward direction once the pattern is
 confirmed.
● This price pattern forms what looks like a cup, which is followed by an upward trend.
The handle follows the cup formation and is formed by a generally downward/sideways
movement in the security's price.
● Once the price movement pushes above the resistance lines formed in the handle,
the upward trend can continue. There is a wide ranging time frame for this type of
pattern, with the span ranging from several months to more than a year

Triangles
● Triangles are well-known chart patterns
used in technical analysis. The three types
of triangles, which vary in construct and
implication, are the symmetrical triangle,
ascending and descending triangle.
● These chart patterns are considered to last
anywhere from a couple of weeks to several
months.
Symmetrical Triangle:
The symmetrical triangle is a pattern in which
two trend lines converge toward each other.
This pattern is neutral in that a breakout to the
upside or downside is a confirmation of a
trend in that direction.

Ascending and Descending triangle

• In an ascending triangle, the
 upper trend line is flat, while the
bottom trend line is upward
sloping. This is generally thought
of as a bullish pattern in which
chartists look for an upside
breakout.
• In a descending triangle, the
lower trend line is flat and the
upper trend line is descending.
This is generally seen as a bearish
pattern where chartists look for a
downside breakout.

Flags and Dead Cat Bounce

• Flags are a pause in the trend, where
the price becomes confined in a
small price range between parallel
lines. This pause in the middle of a
trend gives the pattern a flag like
 appearance.
• Flags are generally short in
duration, lasting several bars, and
do not contain price swings back
and forth. Flags may be parallel or
upward or downward sloping.

Dead Cat Bounce

● A dead cat bounce is a short-lived and often sharp rally that
occurs within a secular downtrend, or one that is unsupported
by fundamentals that is reversed by price movement to the
downside.
● In technical analysis, a dead cat bounce is considered to be a
continuation pattern, where at first the bounce may appear to be
 a reversal of the prevailing trend, but it is quickly followed by a
continuation of the downward price move.
● Dead cat bounce patterns are usually only realized after the fact
and are difficult to identify in real-time.

Pennants
• Pennants are similar to a
triangle, yet smaller;
pennants are generally
created by only several bars.
• The pattern is created as
prices converge, covering a
relatively small price range
mid-trend; this gives the
pattern a pennant
 appearance.

Candlestick Charts
• Candlestick chart, contains open, high, low and close values for each time period you
want to display.
• The hollow or filled portion of the candlestick is called "the body" (also referred to as
"the real body").
• The long thin lines above and below the body represent the high/low range and are
called
"shadows" (also referred to as "wicks" and
"tails").
• The high is marked by the top of the upper shadow and the low by the bottom of the
lower shadow.
• If the stock closes higher than its opening price, a hollow candlestick is drawn with the
bottom of the body representing the opening price and the top of the body representing
the closing price.
• If the stock closes lower than its opening price, a filled candlestick is drawn with the
top of the body.

Candlestick Patterns
• The power of Candlestick Charts is with multiple candlesticks
forming reversal and continuation patterns. Some important
patterns are
 Doji
• Doji are important candlesticks that
provide information on their own and
as components of a number of
important patterns.
• Doji form when a security's open and
close are virtually equal. The length of
the upper and lower shadows can vary
and the resulting candlestick looks like
a cross, inverted cross or plus sign.
• Alone, doji are neutral patterns. Any
bullish or bearish bias is based on
preceding price action and future
confirmation.
 DragonFly and Gravestone Doji
• Dragonfly doji forms when the open,
high and close are equal and the low
creates a long lower shadow. The
resulting candlestick looks like a "T"
with a long lower shadow and no upper
shadow. It indicates a trend reversal. The
reversal implications of a dragonfly doji
depend on previous price action and
future confirmation.
• Gravestone doji form when the open, low
and close are equal and the high creates a
long upper shadow. The resulting
candlestick looks like an upside down
"T" with a long upper shadow and no
lower shadow.
 Hammer & Hanging Man
• Hammer candlesticks form with a long
lower shadow, small body and very little
upper shadow. Security moves
significantly lower after the open, but
rallies to close well above the intraday
low. If this candlestick forms during a
decline, then it indicates a bullish
reversal.
• Hanging Man candlesticks form when a
security moves significantly lower after
the open, but rallies to close well above
the intraday low. If this candlestick forms
during an advance, then it indicates a
bearish reversal
 Inverted Hammer and Shooting Star
• Inverted Hammer is a one day
bullish reversal pattern. In a
downtrend, the open is lower, then
it trades higher, but closes near its
open, therefore looking like an
inverted hammer.
• Shooting Star is a single day
pattern that can appear in an
uptrend. It opens higher, trades
much higher, then closes near its
open. It looks just like the Inverted
Hammer except that it is bearish.
 Morning Star and Evening Star
• Morning Star: A three day bullish
reversal pattern consisting of three
candlesticks - a long-bodied black
candle extending the current
downtrend, a short middle candle that
gapped down on the open, and a long
bodied white candle that gapped up on
the open and closed above the
midpoint of the body of the first day.
• Evening Star: A bearish reversal
pattern that continues an uptrend with
a long white body day followed by a
gapped up small body day, then a
down close with the close below the
midpoint of the first day.
 Spinning Top
• Spinning Top: Candlestick lines that
have small bodies with upper and
lower shadows that exceed the length
of the body. Spinning tops signal
indecision among the traders.
• Stars: A candlestick that gaps away from the previous
candlestick is said to be in star
position. Depending on the
previous candlestick, the star
position candlestick gaps up or
down and appears isolated from
previous price action.
Long Candles
 • Long Candles: A long
Candle (Day) represents
a large price move from
open to close, where the
length of the candle,
the body is long. A long
white body indicates a
bullish trend and a long
black body indicates a
bearish trend.
Engulfing Pattern
• Engulfing Pattern: A reversal
pattern that can be bearish or
 bullish, depending upon
whether it appears at the end
of an uptrend (bearish
engulfing pattern) or a
downtrend (bullish engulfing
pattern). The first day is
characterized by a small body,
followed by a day whose
body completely engulfs the
previous day's body.
Marubozu
• Marubozu: A candlestick with no
shadow extending from the body at
either the open, the close or at both.
The name means close-cropped or
 close-cut in Japanese, though other
interpretations refer to it as Bald or
Shaven Head.
• A White Marubozu shows that opening
price is equal to its low price and
closing price is its high price whereas
a Black Marubozu shows that opening
price is equal to its High price and
closing price is its low price.
Three black crows & three white
soldiers
➔ Three black crows is a
bearish candlestick pattern
used to predict the reversal of
 a current uptrend.
➔ Traders use it alongside
other technical indicators such as
the relative strength index
(RSI).
➔ The size of the three black
crows candles and the shadow can
be used to judge whether the
reversal is at risk of a
retracement.
➔ The opposite pattern of three black crows is three white
soldiers, which indicates a reversal of a downtrend.
Three White Soldiers:
➔ Three white soldiers are considered a reliable reversal pattern
when confirmed by other technical indicators like the relative strength
index(RSI).
➔ The size of the candles and the length of the shadow is used to
 judge whether there is a risk of retracement.
➔ The opposite pattern of three white soldiers is three black crows,
which indicates a reversal of an uptrend.

Harami
• Harami: A two day pattern
that has a small body day
completely contained within
the range of the previous
body, and is the opposite
color. The second candle is
 located within the first.

Elliott Wave Theory

• Ralph Nelson Elliott developed the
Elliott Wave Theory in the late
1920s by discovering that stock
markets, thought to behave in a
somewhat chaotic manner, in fact
traded in repetitive cycles.
• Elliott discovered that these market
cycles resulted from investors'
reactions to outside influences, or
predominant psychology of the
masses at the time. He found that the
upward and downward swings of the
mass psychology always showed up
in the same repetitive patterns, which
were then divided further into
patterns he termed "waves"
 Market Predictions Based on Wave Patterns
• Elliott made predictions based on unique characteristics he
discovered in the wave patterns. An impulsive wave, which goes
with the main trend, always shows five waves in its pattern. On a
smaller scale, within each of the impulsive waves, five waves can
again be found. In this smaller pattern, the same pattern repeats
itself infinitely. These ever-smaller patterns are labeled as different
wave degrees in the Elliott Wave Principle.
• In the financial markets we know that "every action creates an equal
and opposite reaction" as a price movement up or down must be
followed by a contrary movement. Price action is divided into
trends and corrections or sideways movements. Trends show the
main direction of prices while corrections move against the trend.
Elliott labeled these "impulsive" and "corrective" waves.
Theory Interpretation
• The Elliott Wave Theory is interpreted as
follows: Every action is followed by a reaction. • Five
waves move in the direction of the main trend followed
by three corrective waves (a 5-3 move).
• A 5-3 move completes a cycle.
• This 5-3 move then becomes two subdivisions of the next
higher 5-3 wave.
• The underlying 5-3 pattern remains constant, though
the time span of each may vary.
• Let's have a look at the following chart made up of eight
waves (five up and three down) labeled 1, 2, 3, 4, 5, A, B
and C.
• We can see that the three waves in the direction of the
trend are impulses, so these waves also
have five waves within them. The waves against the trend are corrections and are
composed of three waves.
Indicators
Volume of Trade
• Volume expands along with the bull market
and narrows down in the bear market.
• Technical analysts use volume as an
excellent method of confirming the trend.
• In a bullish market the volume of trade is
large with rise in price whereas, in a bearish
market the volume of trade is large with a fall
in price.
• Volume confirms chart patterns.
Breadth of the Market
• The net difference between the number of stocks advanced and declined
during the same period is the breadth of the market.
• A cumulative index of net differences measures the market breadth.
• In a bullish market , a bearish signal is given when the A/D line slopes
down and the market is rising and vice versa.

Volume of Trade
Short sales
• This is a technical indicator also known as short interest.
• It refers to the selling of shares that are not owned. The
bears are short sellers who sell now in hope of buying later
at a lower price.
• When demand for a particular share increases, the
outstanding short positions also increase. It indicates a
future rise in prices.
• Short sales of a particular month are compared with the
average daily volume of the preceding month. If the ratio
is less than 1, the market is said to be weak or overbought
and a decline can be expected. If the value is above 1 it
indicates a bullish trend. If it is above 2 , the market is said
to be oversold.
Moving Average
• Markets do not rise in a straight line. The underlying trend in the
market can be studied by smoothing the data. This is done by
using moving averages.
• The word moving means that the body of data moves ahead to
 include the recent observation.
• The moving average indicates the underlying trend in the scrip.
• They also form the building blocks for many other technical
indicators and overlays, such as Bollinger Bands, MACD etc. • For
identifying short-term trends, 10 to 30 days moving averages are
used.
• In the case of medium-term trends, 50 to 125 days are adopted. •
To identify long-term trends, the 200 days moving average is
used. • The two most popular types of moving averages are the
Simple
Moving Average (SMA) and the Exponential Moving Average
(EMA)
Simple Moving Average (SMA)
• A simple moving average is formed by computing the
average price of a security over a specific number of
 periods. Most moving averages are based on closing
prices. A 5-day simple moving average is the five day
sum of closing prices divided by five.
• Old data is dropped as new data becomes available.
This causes the average to move along the time
scale.

Exponential Moving Average

• Exponential moving average is a weighted moving
average. Recent prices are given more weights than the
older prices. The weighting applied to the most recent
price depends on the number of periods in the moving
average.
• Exponential Moving Average Calculation
Exponent: E= (2 / (n + 1) ) where n is period.
For n=10, E= (2 / (10 + 1) ) = 0.1818
• EMA: {Close - EMA(previous day)} x
Exponent + EMA(previous day).
 Average True Range (ATR)
• J. Welles Wilder developed the Average True Range (ATR). It is an
indicator that measures volatility. The ATR is based on the value of true
range. True Range (TR) is defined as the greatest of the following:
• Method 1: Current High less the current Low
• Method 2: Current High less the previous Close (absolute value) • Method
3: Current Low less the previous Close (absolute value) • Absolute values
are used to ensure positive numbers. The previous
The closing price is used to measure the gap. Usually the ATR is
measured for 14 periods. The average is smoothened using the
following formula
• Current ATR = ((Previous ATR x 13) + TR)/ 14
• A high ATR indicates high probability of trend change and a low ATR
indicates low probability of trend change.
Oscillators
Oscillator shows the share price movement across a
reference point from one extreme to another. The
momentum indicates:
➔ Overbought and oversold conditions of the scrip
or the market.
➔ Signaling the possible trend reversal.
➔ Rise or decline in momentum.

Some of Oscillator Indicators are: MACD, RSI, Stochastic Oscillator,

Rate of Change(ROC), Money Flow Index(MFI), Commodity
Channel Index(CCI)

Moving Average Convergence/Divergence

oscillator (MACD)
• It is the difference between two exponential moving averages.
 It measures the convergence and divergence between two
exponential moving averages of varying periods. The MACD
fluctuates above and below the zero line as the moving
averages converge, cross and diverge. Traders can look for
signal line crossovers, centerline crossovers and divergences
to generate signals.
• The MACD Line is the 12-day Exponential Moving Average
(EMA) less the 26-day EMA. Closing prices are used for
these moving averages. A 9-day EMA of the MACD Line is
plotted with the indicator to act as a signal line and identify
turns.
 Relative Strength Index (RSI)
● RSI was developed by Wells Wilder.
● It identifies the inherent technical strength and
weakness of a particular scrip or market. RSI
can be calculated for a script by adopting the
following formula. RSI can be calculated for 5,7,9 and
14 days.
● If RSI crosses 70 there may be a downturn. If RSI falls below 30,
there may be an uptrend.
● If the share price is falling and RSI is rising, a divergence is said to
have occurred. Divergence indicates the turning point of the market.
● If RSI is rising in an overbought zone, it indicates a fall in prices.
● If RSI is in an oversold zone, it indicates a rise in prices.
 Rate of Change (ROC)
• ROC measures the rate of change between the current
price and the price ‘n’ number of days in the past.
• ROC helps to find out the overbought and oversold
positions in a scrip. Closing prices are used to calculate
ROC. Calculation of ROC for 12 weeks or 12 months
is popular.
• ROC can be calculated by two methods.
➢ In the first method, the current closing price is expressed
as a percentage of the 12 days or weeks in the past.
➢ In the second method, the percentage variation between
the current price and the price 12 days in the past is
calculated.
• ROC = Today’s Price 100 Price ‘n’
days back
• ROC = Today’s Price 100 - 100
Price ‘n’ days back
The main advantage of ROC is that it helps in identifying
overbought and oversold positions. Historic highs and lows of
ROC have to be identified to locate overbought and oversold
regions.
Technical Analysis & Fundamental Analysis
1. Fundamental analysts analyses financial strength of corporate,
growth of sales, earnings and profitability.
➢ The technical analysts mainly focus their attention on the
past history of prices.
2. Fundamental analysts estimate the intrinsic value of the shares.
➢ Technical analysts mainly predict the short term price
movement.
3. Fundamentalists are of the opinion that supply and demand for
stocks depend on the underlying factors.
➢ Technicians opine that they can forecast supply and demand
by studying the prices and volume of trading.