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Wiley CMT - Curriculum Level II

OVERVIEW NOTES STUDY GUIDE •••

Charts - Understanding Data Intervals

Upon completion of this lesson, candidates should be able to:

Current Grade N/A
Employ a sequence of multiple data intervals to identify trends.

Compare the typical construction of weekly and monthly interval charts. Time Spent 01:23:41
Review challenges related to consistent data sampling using time-based intraday
intervals.

Interpret general trend relationships in charts with multiple price-data sets.

Interpret the significance of the data points in a scatter plot.

Notes

1 t Study Guide 

At its root, technical analysis is the study of price. Because price captures all the information about the supply and
demand for a security, monitoring price behavior allows analysts to detect movements in supply and demand. Charts
are tools for gathering and recording that information so that it can be used for analysis. How to gather and organize
the price information varies, depending on the type of analysis analysts want to conduct, the data elements deemed
critical to that analysis, and the trading or investment horizon.

2 t Study Guide 

the entry is only half the story of what makes a good trade. You must also make a good exit decision.

3 t Study Guide 

Charts in which a single bar depicts a long period of trading, such as a month, are good at showing long-term trends;
they factor out much of the daily noise in the data. However, they are slow to show changes in trend. Technical
analysts rely on analysis in multiple time frames, or “data intervals” in charting terms, to get clues about changes in
trend.

4 t Study Guide 

Using multiple time frames allows analysts to determine a longer trend and then zero in on the most recent price
behavior.

5 t Study Guide 

A general rule of thumb is that the data interval for the next shorter time frame should be no more than one-quarter
of the previous data interval

6 t Study Guide 

Analysts who are trading stocks with high volatility and high daily volume tend to use shorter intervals than analysts
who are trading less-volatile and lower-volume stocks. Those who have access to high-speed data and fast order
execution use shorter intervals than individuals who lack that access. The relevant analysis sequence of data intervals
also depends on the nature of the trader, with longer-term investors not being concerned with intraday time frames.
But the rule of starting at a longer interval and working down to shorter intervals, with each subsequent interval being
no more than one-quarter of the longer interval, holds for all investors.

7 t Study Guide 

When the line plots of two stocks are fairly parallel, as in Figure 7, the two stocks are highly correlated. If the line chart
of one stock rises more steeply than that of the other stock, then the former stock has a relatively stronger trend than
the latter. When the line charts have different shapes, such as in Figure 8, then the correlation between the two stocks
is very low.

8 t Study Guide 

Each dot on the graph represents the combination of the two prices for one particular month.

9 t Study Guide 

Figure 9 Scatterplot of MSFT and AAPL

10 t Study Guide 

Figure 10 Scatterplot of BA and AAPL

Study Guide 10

Julie Dahlquist, Ph.D., CMT

Professor of Professional Practice, Neeley School of Business, Texas Christian University

1 At its root, technical analysis is the study of price. Because price captures all the information about the supply and demand for a security,
monitoring price behavior allows analysts to detect movements in supply and demand. Charts are tools for gathering and recording that
information so that it can be used for analysis. How to gather and organize the price information varies, depending on the type of analysis
analysts want to conduct, the data elements deemed critical to that analysis, and the trading or investment horizon.

Data Intervals

First, we consider how frequently analysts want to gather data. Suppose you want to analyze the price behavior of Apple, Inc. (AAPL). With
almost 200 million shares of AAPL trading each day, it would be impractical for most analysts to track every single observed price. With
millions of observations in a day, you would become distracted by many small price moves that do not help determine the overall price
trend. These price moves that occur around the underlying trend are often called noise. Trying to capture every price observation rather than
the general price movements would be akin to missing the forest for the trees.

Often analysts use a sampling technique to gather a small set of data that is representative of the broader, larger population. This method
reduces data collection time and expense and helps users avoid being distracted by the noise in the data. A line chart of monthly closing
prices is an example of sampling. One observation, the closing price of the stock on the last trading day of the calendar month, is collected to
summarize the millions of prices that occurred during the month. Figure 1 is a chart of AAPL from August 2016 to August 2020 with monthly
sampling, commonly known as a monthly chart. Each dot on the chart represents one price observation that is used to summarize the price
data for the month. These dots are then connected to form a line chart.

Figure 1 Monthly Line Chart, AAPL, August 2016–August 2020

In a monthly line chart, 12 data observations are used to summarize the price behavior during an entire year. A bit more information can be
portrayed in a monthly candlestick chart, such as the one in Figure 2. Each candlestick in the chart represents one month of trading from
August 2016 to August 2020. The sampling period is still one month, but now four pieces of information are sampled each month: the first
price of the month (open), the last price of the month (close), the highest price that occurred during the month (high), and the lowest price
that occurred during the month (low).

Figure 2 AAPL Monthly Candlestick Chart August 2016–August 2020

Glancing at Figure 1 or Figure 2, you can tell that AAPL has been in an uptrend. Figure 2 adds information regarding the range of price that
occurred each month. You see five open-bodied candlesticks for April through August of 2020, indicating that AAPL ended each of those
months at a higher price than it began the month. These five candlesticks have very short wicks; this gives you even more insight into the
price behavior: The stock did not move much lower during the month than where it opened, and it finished the month near or at its highest
price in the month. Also, you notice that the bottom of each month’s candlestick occurs at approximately the same price level as the top of
the previous month’s candlestick. This suggests a steady march upward in price during the five months. Price is increasing throughout the
month, and that price movement continues into the following month.

If you purchased AAPL during the last several years, you entered favorably, during a general uptrend. But 2 the entry is only half the story
of what makes a good trade. You must also make a good exit decision. You want to exit this position when the long-term uptrend ends. It is
now early September; you have achieved gains and do not want to remain in the position if the uptrend has stalled or reversed.

3 Charts in which a single bar depicts a long period of trading, such as a month, are good at showing long-term trends; they factor out
much of the daily noise in the data. However, they are slow to show changes in trend. Technical analysts rely on analysis in multiple time
frames, or “data intervals” in charting terms, to get clues about changes in trend.

A weekly chart of AAPL, as shown in Figure 3, shows the price progression over the previous few months in more detail. We see, for example,
that much of the price increase in July came in the last week of that month. We also see that AAPL has ended each of the last two weeks
lower than where it started. Furthermore, we see that the candlestick for the first week in September has extremely long top and bottom
shadows. Seeing the price behavior over the past couple of weeks, you are becoming concerned that the uptrend has run its course. You
might use an additional time frame (data interval), a daily candlestick chart, such as that in Figure 4.

Figure 3 AAPL Weekly Candlestick Chart

Figure 4 AAPL Daily Candlestick Chart

The last five candles in Figure 4 decompose the price movement of the last candle in Figure 3 into daily price moves. You knew from the last
candle in Figure 3 that AAPL began the week at about $127 per share, ended the week about $121 per share, but sold for a price as high as
about $137 and as low as about $111. Looking at the daily chart in Figure 4, you can see more of the progression of price during the week. You
see that on Monday and Tuesday the price of AAPL went up and that price appreciation continued into the open on Wednesday. You also see
that the high of the week occurred near the Wednesday opening price. That price behavior changed, however, during the day on Wednesday,
with the price falling to approximately Monday’s opening price and then rebounding a bit to close near Tuesday’s low price. On Thursday, the
stock opened at approximately the low of the previous day and was not able to hold on to price appreciation, finishing near the low of the
day. The closing price on Thursday was at a level that had not been seen since August 21. On Friday, despite an intraday price swing of about
10%, AAPL ended the day almost unchanged from the previous day.

Now you know that the top of the upper shadow on the weekly candle pictured in Figure 3 occurred because of price increases that
happened early in the week. These price increases were not sustained, however, with price falling and testing a support zone around $110 on
Friday, a level that had been established in early August.

Although modern software allows for custom treatments for weekly and monthly charts, the standard construction methods use calendar
weeks and calendar months. That is, a weekly chart includes data for the five trading days of the calendar week:

The opening price of the first trading day of the week (typically Monday, but could be Sunday evening; this depends on the market
and time zone),
The highest and lowest prices of the entire calendar week,
The closing price from the last trading day of the week (typically Friday).

During a week that includes holidays, the data is drawn from the remaining trading days in the calendar week.

A monthly chart includes data for all the trading days of the calendar month, regardless of how many trading days there are in the month:

The opening price of the first trading day of the month

The highest and lowest prices of the entire calendar month
The closing price from the last trading day of the month

During a month that includes holidays, the data is drawn from the remaining trading days in the calendar month.

An important effect of this is that weekly and monthly charts rarely open or close with the same daily data. In fact, they typically open or
close with the same daily data only when the first or last trading days of the month fall on a Monday or a Friday, respectively.

Working with Multiple Data Intervals

4 Using multiple time frames allows analysts to determine a longer trend and then zero in on the most recent price behavior. This is done
by using a chart constructed with longer data intervals, such as the monthly chart in Figure 2, and then moving to charts with shorter
intervals for the more recent time period, as in Figures 3 and 4. For longer-term investors, reasonable time frames would be charts created
using one-month, one-week, and one-day data intervals. 5 A general rule of thumb is that the data interval for the next shorter time frame
should be no more than one-quarter of the previous data interval. In the example we just looked at, we started with a monthly data interval
and then used a weekly data interval, which is approximately one-quarter of the monthly interval. Then the next interval used was a daily
chart, which is generally one-fifth of the weekly interval.

This general process can be used by long-term investors or short-term traders. Technical analysts would progress from longer data intervals
to shorter intervals, but the lengths of those intervals would change depending on the investing or trading horizon. Investors who are making
portfolio adjustments once per week, for example, would not be interested in any chart constructed with an interval smaller than daily; those
investors are interested in longer-term trends, and intraday price movements are simply noise around those trends. For day traders,
however, intraday data intervals are important.

For example, suppose you are a trader who has been asked to fill a buy order for 100,000 shares of Pfizer, Inc. (PFE) on October 19, 2020. You
are not using the chart to decide whether PFE is a stock you want to purchase (or sell); your one objective is to buy 100,000 shares today at
the lowest cost possible. You might begin with a recent daily candlestick chart for PFE, such as in Figure 5. This daily chart will give you an
idea of any recent trends, support levels, and resistance levels that have developed for PFE.

Figure 5 PFE Daily Candlestick Chart

The tall candle for the latest trading day shows upward price movement. A resistance zone had been in place around 37 for the past couple of
weeks. The trading activity on Friday was above that resistance zone, suggesting a breakout. The open body of Friday’s candle shows that
PFE closed higher than it opened. In addition, the short lower wick indicates that PFE opened near the low of the day, and the short upper
wick indicates PFE closed near the high of the day. You are curious, however, if the upward price move occurred throughout the day or if it
was more pronounced in the morning or late in the trading day. In order to decompose Friday’s price gain, you turn to a candlestick chart of a
shorter interval, perhaps an hourly chart.

Figure 6 contains an hourly candlestick chart for PFE. Now you can see that PFE opened strong, rising during the first hour of trading. PFE
trended strongly higher during the day, despite a bit of a stall during the second two hours of trading.

Figure 6 PFE—60-Minute Candlestick Chart

You know that you are entering Monday morning with an order to purchase 100,000 shares of PFE. You are especially interested in looking to
see if the upward trend will continue through Monday; if so, you want to purchase your shares as early in the day as possible. Now that you
have gleaned information from the daily and hourly charts, you will move to an even shorter interval to place your orders. Perhaps you would
consider a 10-minute chart and then a 1-minute chart.

A peculiarity of hourly charts is that, generally, each candle or bar represents price behavior over a particular, consistent time period, such
as a week, a day, 15 minutes, or one minute. The trading day for U.S. stock markets begins at 9:30 a.m. and ends at 4:00 p.m. Eastern time,
meaning that the market is open for 6½ hours, or 390 minutes. Charting programs plot seven hourly bars or candles for a typical trading
day. The first bar or candle plots price behavior from 9:30 a.m. to 10:30 a.m., or the first 60 minutes of trading. The second bar or candle
maps price behavior for the second hour, beginning at 10:30 a.m. and representing the second 60 minutes of trading. This process
continues throughout the trading day with the seventh candle capturing price behavior for minutes 361 to 390 of the trading day, or the
last 30 minutes.

The inference to be drawn is that not every 60-minute bar is equal. Analysts using intraday time intervals often consider the length of the
trading day and how it is divided by the intervals they select.

The particular sequence you will want to follow depends on several factors. 6 Analysts who are trading stocks with high volatility and high
daily volume tend to use shorter intervals than analysts who are trading less-volatile and lower-volume stocks. Those who have access to
high-speed data and fast order execution use shorter intervals than individuals who lack that access. The relevant analysis sequence of data
intervals also depends on the nature of the trader, with longer-term investors not being concerned with intraday time frames. But the rule of
starting at a longer interval and working down to shorter intervals, with each subsequent interval being no more than one-quarter of the
longer interval, holds for all investors.

Charting Multiple Data Sets

The charts we have considered so far portray a single security. They are helpful in determining the trend for a particular stock. At times,
however, we want to compare two securities. Figure 7 displays a chart that provides price information for AAPL and Microsoft Corp. (MSFT).
This chart provides time-series data, collected at a monthly interval, for each of these two companies. Time is measured on the horizontal
axis. The prices of the stocks are noted on the vertical axis.

Both MSFT and AAPL have been in an uptrend. The presentation of the data in Figure 7 allows analysts to begin considering if the uptrend of
one of the stocks is stronger than the other, or how one stock has performed relative to the other. Analysts can also begin to detect if the two
stocks tend to increase and decrease in price at the same times, indicating how correlated the stocks are. (Details on how technical analysts
calculate and apply correlation and regression analysis follow later in this text and in Level III.)

Figure 7 MSFT (lighter line) and AAPL (darker line) Monthly Line Chart

Figure 8 provides a visual comparison of AAPL with another stock, Boeing Co. (BA). Unlike MSFT and AAPL, which had similar-looking line
charts, the line charts of AAPL and BA look different. The increase in BA during the first couple of years in the graph indicates that while both
stocks were increasing in value, BA’s uptrend was relatively stronger than that of AAPL. The last year of the chart shows APPL in an uptrend
while BA has been in a downtrend.

Figure 8 BA (lighter line) and AAPL (darker line) Monthly Chart

7 When the line plots of two stocks are fairly parallel, as in Figure 7, the two stocks are highly correlated. If the line chart of one stock rises
more steeply than that of the other stock, then the former stock has a relatively stronger trend than the latter. When the line charts have
different shapes, such as in Figure 8, then the correlation between the two stocks is very low.

Often line charts created through time-series data give insight into correlation between two securities and the relative strength of one of the
stocks. Statistically, placing the same price data in a chart with the format of Figure 9 is done to highlight correlations. This scatterplot graph
records the price of MSFT on the horizontal axis and the price of AAPL on the vertical axis. 8 Each dot on the graph represents the
combination of the two prices for one particular month. For example, the dot on the upper right-hand corner in the figure indicates that in
the month that MSFT’s stock price was 224.99, AAPL’s stock price was 128.81. You cannot tell from the graph, however, when that price
combination occurred, only that those two prices occurred simultaneously.

9 Figure 9 Scatterplot of MSFT and AAPL

Another scatterplot graph is shown in Figure 10, with the price of BA, rather than MSFT, placed on the horizontal axis. This scatterplot looks
substantially different from that in Figure 9. In Figure 9, the dots clustered around low prices for both AAPL and MSFT and high prices for both
AAPL and MSFT; a best-fit line, which provided a reasonable representation of the pattern of the dots, could be drawn through the dots. In
Figure 10, there is a wide range of prices for AAPL when BA is at a low price. Some months when BA traded around 175, AAPL had a price of
only about 30, but at other times AAPL had a price close to 120. Likewise, BA sometimes traded for a low price and other times at a high price
during months when AAPL traded at 40 per share. In Figure 10, it is difficult to draw a line that appears to portray a relationship between the
two stocks.

10 Figure 10 Scatterplot of BA and AAPL

Conclusion

In this chapter, we have looked at the choice of data interval in chart construction. Most commonly, technical analysts construct a chart by
gathering and summarizing price data at a particular time interval, whether it is monthly, daily, for each minute, or some other frequency.
This allows technical analysts to study price movement over time, whether long-term trends or intraday price movements are of interest. In
the next chapter, we consider ways other than time to sample and present price data in a chart.

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