Technical Analysis Terms
The following information is believed to be
reliable but not guaranteed.
The Alpha-Beta Trend Channel study
uses the standard deviation of price variation to
establish two trend lines, one above and one
below the moving average of a price field. This
creates a channel (band) where the great majority
of price field values.will occur.
Developed by Richard W. Arms, Jr.,
this analysis routine expands on Mr. Arms'
Equivolume charting tool by quantifying the shape
aspects of the plotted boxes. The purpose of this
quantifying is to determine the ease, or lack
thereof, with which a particular issue is able to
move in one direction or another. The ease with
which an issue moves is a product of a ratio
between the height (trading range) and width
(volume) of the plotted box. In general, a higher
ratio results from a wider box and indicates
difficulty of movement. A lower ratio results
from a narrower box and indicates easier
movement. This ratio is then related to a
comparison between today's and yesterday's
trading-range midpoint values to determine the
ease of movement value (EMV). A moving average is
then applied to the EMV value - the moving
average period can be varied in order to make the
EMV flexible as a trading tool.
True range is the greatest of the
following differences:
- Today's high to today's low
- Today's high to yesterday's
close
- Today's low to yesterday's
close
The range is normally the
"high - low". However, any time the
value of yesterday's close is not within the
range of today's bar, rule b) or rule c) applies.
As with most other indicators, the periodic value
is summed and smoothed to create the final
indicator.
Bollinger Bands plot trading bands
above and below a simple moving average. The
standard deviation of closing prices for a period
equal to the moving average employed is used to
determine the band width. This causes the bands
to tighten in quiet markets and loosen in
volatile markets. The bands can be used to
determine overbought and oversold levels, locate
reversal areas, project targets for market moves,
and determine appropriate stop levels. The bands
are used in conjunction with indicators such as
RSI, MACD histogram, CCI and Rate of Change.
Divergences between Bollinger bands and other
indicators show potential action points. As a
general guideline, look for buying opportunities
when prices are in the lower band, and selling
opportunities when the price activity is in the
upper band.
Method of drawing stock (or
commodity) charts which originated in Japan.
Requires the presence of Open, High, Low and
Close price data to be drawn. There are two basic
types of candles, the white body and the black
body. As with regular bar charts, a vertical line
is used to indicate the periods (normally daily)
high to low. When prices close higher than they
opened a white rectangle is drawn on top of the
high-low line. This rectangle originates at the
opening price level and extends up towards the
closing price. A down day is drawn in black. The
combination of several candles results in
patterns (with names like "two crows"
or "bullish engulfing pattern") which
give insight into future price activity. For
other Japanese charting approaches also see Renko
and Kagi charts.
The Chaikin Oscillator is created
by subtracting a 10 period exponential moving
average of the Accumulation/Distribution line
from a 3 period moving average of the
Accumulation/Distribution Line.
The CCI is a timing system that is
best applied to commodity contracts which have
cyclical or seasonal tendencies. CCI does not
determine the length of cycles - it is designed
to detect when such cycles begin and end through
the use of a statistical analysis which
incorporates a moving average and a divisor
reflecting both the possible and actual trading
ranges. Although developed primarily for
commodities, the CCI could conceivably be used to
analyze stocks as well.
Formula: CCI=(M-MAVG)/(0.015xDAVG)
M=1/3 (H+L+C) H=Highest price for
a period L=Lowest price for a period C=Closing
price for a period MAVG=N-period simple moving
average of M DAVG= 1/n x SUMi=1 to n
(ABS(MI-MAVG))
The Commodity Selection Index is
related to the Directional Movement Index.
Whereas the ADXR plot of the DMI is used to rate
contracts from the longer term, trend-following
point of view, the CSI is used to rate items in
the more volatile short term. The Commodity
Selection Index takes into account the ADXR from
the Directional Movement Index, the Average True
Range, the value of a one cent move as well as
margin and commission requirements. The higher
the CSI rating, the more attractive an item is
for trading.
Cutler's RSI is a slight variation
of Welles Wilder's original Relative Strength
Index. The RSI is a momentum oscillator used to
identify overbought and oversold conditions by
keying on specific levels, generally 30 and 70,
on a chart scaled from 0 to 100. The study can
also be used to detect the following:
Cutler's RSI is calculated as
follows:
If the difference is positive, it
is a Close UP. If the difference is negative, the
sign is changed and it is a Close DOWN.
The Demand Aggregate is used
similarly as the Demand Index but adds Open
Interest as a consideration in the formula. In
its simplest terms, the system confirms price
trends by analyzing concurrent Volume and Open
Interest trends. For example, a rise in price,
coupled with rising Volume and Open Interest
figures, is considered a bullish indicator.
Interpretations are made with respect to the
relationship between the movement of Volume, Open
Interest, and Price.
The Demand Index is a leading
indicator which combines volume and price data in
such a way as to indicate a change in price
trend. It is designed so that at the very least
it is a coincidental indicator, never a lagging
one. The calculation of this index is relatively
complex. This analysis is based on the general
observation that volume tends to peak before
prices peak, both in the commodity and stock
markets.
Detrend is simply another
interpretation of a moving average. It provides a
means of identifying underlying cycles not
apparent when the moving average is viewed in its
original form by effectively hiding the major
cycles from view. The moving average line is
drawn as a straight, horizontal basis line on the
Detrend chart. Price bars are then re-positioned
along this line depending on their relation to
the moving average line.
Directional Movement uses a
rather complicated set of calculations designed
to rate the directional movement of commodities
or stocks on a scale from 0 to 100. For those
traders who employ trend-following methods,
commodities or stocks rating in the upper end of
the scale would be attractive. Those using
non-trending methods, commodities or stocks
rating at the lower end of the scale should be
considered for trading. At its most basic, the
Directional Movement would affect trading in the
following manner: Long positions would be taken
when the "+DI" line crosses over the
"-DI" line. Short positions would be
taken when the "-DI" line crosses over
the "+DI" line. Further components of
this index are the ADX and ADXR lines.
Elliott wave theory goes beyond
traditional charting techniques by providing an
overall view of market movement that helps
explain why and where certain chart patterns
develop. The three major aspects of wave analysis
are pattern, time and ratio. The basic Elliott
pattern consists of a 5 wave uptrend followed by
a three wave correction. Each "leg" of
a wave in turn consists of smaller waves. Elliott
waves can be used to successfully define where
the market currently is in relation to "the
big picture" but is usually to unreliable
for short term trading.
They can be applied both to price
and time, although it is more common to use them
on prices. The most common levels used in
retracement analysis are 61.8%, 38% and 50%. When
a move starts to reverse the 3 price levels are
calculated (and drawn using horizontal lines)
using a movements low to high. These retracement
levels are then interpreted as likely levels
where counter moves will stop. It is interesting
to note that the Fibonacci ratios were also known
to Greek and Egyptian mathematicians.The ratio
was known as the Golden Mean and was applied in
music and architecture. A Fibonacci spiral is a
logarithmic spiral that tracks natural growth
patterns.
The Gann Square is a mathematical
system for finding support and resistance based
upon a commodity or stock's extreme low or high
price for a given period. Attainment of a
particular price level in a square tells you the
next probable price peak or valley of future
movement. The probable price levels tend to be
more reliable if they are extrapolated from Gann
Square values along one of the major axes of the
Gann Square. The Gann Square is generated from a
central value, normally a all-time or cyclical
high or low. If a low is used, the numbers are
incremented by a constant amount to generate the
Gann Square. If a high is used, the numbers are
decremented during the square generation.
This indicator is calculated
daily from the plurality of NYSE advances over
declines. There are three components of the
Haurlan index: Short Term, Long Term and
Intermediate Term.
1) Short Term. A 3-day
exponential moving average is taken of the net
NYSE advances over declines, measuring the short
term condition of the market. When this index
moves above +100, a market short term buy signal
is generated. The signal is in effect until the
market drops below -150 at which time a sell
signal is generated. The sell signal remains in
effect until the index moves above +100 again.
2) Intermediate Term. Same as
above but with a 20-day exponential moving
average. This index is considered the most
important of the three. Market buys and sells are
determined in this index by the crossing of trend
lines or support/resistance levels depending on
the particular market in question. For example,
when the market is basing out in preparation for
an uptrend, a resistance level may be set up.
Once its value is determined, buy and sell
signals could be generated for that market.
3) Long Term. Same as above
except for a 200-day exponential moving average.
Useful for determining trends but not for
signals.
Also
can be inverted. A reversal pattern that is one
of the more common and reliable patterns. It is
comprised of a rally which ends a fairly
extensive advance. It is followed by a reaction
on less volume. This is the left shoulder. The
head is comprised of a rally up on high volume
exceeding the price of the previous rally. And
the head is comprised of a reaction down to the
previous bottom on light volume. The right
shoulder is comprised of a rally up which fails
to exceed the height of the head. It is then
followed by a reaction down. this last reaction
down should break a horizontal line drawn along
the bottoms of the previous lows from the left
shoulder and head. This is the point in which the
major decline begins. The major difference
between a head and shoulder top and bottom is
that the bottom should have a large burst of
activity on the breakout.
This is a commodity trading tool,
useful for the early spotting of changes in price
trend direction. The Payoff Index is best used to
distinguish trends that are destined to continue
from those that will most likely be short-lived.
The Payoff Index is a commodity trading tool that
is useful in the early identification of changes
in the direction of price trends. The Payoff
Index frequently helps distinguish between a
rally in a trend that is destined to continue and
a significant trend change that will provide a
worthwhile trading opportunity. The Payoff Index
tends to give coincident signals within a day or
two before a significant change in price trend.
This advance action is accomplished through use
of trading volume and contract open interest to
modify the price action. Analysts have observed
that volume trends often change before a
price-trend change. There are also generally
accepted relationships between the price trend
and the trend of open interest.
Like Candlestick and Renko
charts, Kagi charts come from Japan and were made
popular in the USA by Steve Nison. Kagi charts
display a series of connecting vertical lines
where the thickness and direction of the lines
are dependent on the price action. If closing
prices continue to move in the direction of the
prior vertical Kagi line, then that line is
extended. However, if the closing price reverses
by a pre-determined "reversal" amount,
a new Kagi line is drawn in the next column in
the opposite direction. An interesting aspect of
the Kagi chart is that when closing prices
penetrate the prior column's high or low, the
thickness of the Kagi line changes.
The MACD is used to determine
overbought or oversold conditions in the market.
Written for stocks and stock indices, MACD can be
used for commodities as well. The MACD line is
the difference between the long and short
exponential moving averages of the chosen item.
The signal line is an exponential moving average
of the MACD line. Signals are generated by the
relationship of the two lines. As with RSI and
Stochastics, divergences between the MACD and
prices may indicate an upcoming trend reversal.
This index is based on New York
Stock Exchange net advances over declines. It
provides a measure of such conditions as
overbought/oversold and market direction on a
short-to- intermediate term basis. The McClellan
Oscillator measures a bear market selling climax
when it registers a very negative reading in the
vicinity of -150. A sharp buying pulse in the
market would be indicated by a very positive
reading, well above 100.
Momentum provides an analysis of
changes in prices (as opposed to changes in price
levels). Changes in the rate of ascent or descent
are plotted. The Momentum line is graphed
positive or negative to a straight line
representing time. The position of the time- line
is determined by price at the beginning of the
Momentum period. Traders use this analysis to
determine overbought and oversold conditions.
When a maximum positive point is reached, the
market is said to be overbought and a downward
reaction is imminent. When a maximum negative
point is reached, the market is said to be
oversold and an upward reaction is indicated.
The moving average is probably
the best known, and most versatile, indicator in
the analysts tool chest. It can be used with the
price of your choice (highs, closes or whatever)
and can also be applied to other indicators,
helping to smooth out volatility. As the name
implies, the Moving Average is the average of a
given amount of data. For example, a 14 day
average of closing prices is calculated by adding
the last 14 closes and dividing by 14. The result
is noted on a chart. The next day the same
calculations are performed with the new result
being connected (using a solid or dotted line) to
yesterday’s. And so forth. Variations of the
basic Moving Average are the Weighted and
Exponential moving averages.
The Norton High/Low Indicator
uses results from the Demand Index and the
Stochastic study and is designed to pick tops and
bottoms on long term price charts. Two lines are
generated: the NLP line and the NHP line. The
system also uses level lines at -2 and -3. The
NLP line crossing -3 to the downside is the
signal that a new bottom will occur in 4-6
periods, using daily, weekly, or monthly data.
Similarly, the NHP line crossing -3 to the
downside indicates a new top in the same time
frame. The indicator tends to be more reliable
using longer term data (weekly or monthly). When
either indicator drops below the - 3 level, a
reversal may be imminent. The reversal (or hook)
is the signal to enter the market. For greater
reliability, use the Norton High/Low Indicator
together with other studies for confirmation.
A way to measure volatility is to
measure the daily ranges between the high and the
low. Volatility is high when the daily range is
large and low when the daily range is small. The
Notis %V study contains two separate indicators.
It divides market volatility into upward and
downward components (UVLT and DVLT). Both are
plotted separately in the same window, and can be
plotted as an oscillator. The upward component is
also compared to the total volatility (UVLT +
DVLT) and expressed as a percentage; thus the
name, %V. Volatility can be a key to options
trading. A good sense of market volatility can
help you avoid those frustrating times when the
market moves your way but your option still loses
value.
OBV is one of the most popular
volume indicators and was developed by Joseph
Granville. Constructing an OBV line is very
simple: The total volume for each day is assigned
a positive or negative value depending on whether
prices closed higher or lower that day. A higher
close results in the volume for that day to get a
positive value, while a lower close results in
negative value. A running total is kept by adding
or subtracting each day's volume based on the
direction of the close. The direction of the OBV
line is the thing to watch, not the actual volume
numbers.
Formula:
OBV=SUM(C-CP)/(ABS(C-CP)xV)
C=Today's Close CP=Yesterday's
Close V=Today's Volume
The Parabolic is a Time/Price
system for the automatic setting of stops. The
stop is both a function of price and of time. The
system allows a few days for market reaction
after a trade is initiated after which stops
begin to move in more rapid incremental daily
amounts in the direction the trade was initiated.
For example, when a long position is taken the
stop will move up regardless of price direction.
However, the distance that the stop moves up is
determined by the favorable distance the price
has moved. If the price fails to move favorably
within a certain period of time, the stop
reverses the position and begins a new time
period.
The Point and Figure (PF)
charting method is a technique that has been used
for many years in analyzing the variations in
prices of stocks and commodities. There are
several types of PF charting methods. Some employ
trend lines, resistance levels, and various other
additions to the chart. In this study, we shall
be concerned with only daily reversal type
charts. The principal advantage of a PF chart is
that it is much easier to read and interpret than
other types of charts. All the small, and often
confusing, price movements are eliminated, and
only the most important features of the price
action remain. It would be reasonable to think of
this method as a filter that (hopefully) allows
only meaningful information to enter the chart
and ultimately the decision process. Two basic
symbols are used:
X Denotes the continuance
of an increase in price and is always
"stacked" in the vertical direction.
O Denotes the continuance
of a decrease in price and is always
"stacked" in the vertical direction.
While prices are rising X's are
used. When falling, O's are used. They are always
plotted on rectangular grid graph paper such that
columns of X's and O's alternate. A Point and
Figure chart is characterized by the
specification of two parameters: box size and
reversal number. The box size dictates the price
range associated with a particular box (cubical
area within the grid), while the reversal number
specifies the conditions which terminate a column
of X's and begin a column of O's and vice-versa.
Price Patterns are formations
which appear on commodity and stock charts which
have shown to have a certain degree of predictive
value. Some of the most common patterns include:
Head & Shoulders (bearish), Inverse Head
& Shoulders (bullish), Double Top (bearish),
Double Bottom (bullish), Triangles, Flags and
Pennants (can be bullish or bearish depending on
the prevailing trend).
This indicator is defined as the
ratio of an actual price move to the expected
random walk. If the move is greater than a random
walk, and thus a trend is present, its index will
be larger that 1.0
Rate of Change is used to monitor
momentum by making direct comparisons between
current and past prices on a continual basis. The
results can be used to determine the strength of
price trends. Note: This study is the same as the
Momentum except that Momentum uses subtraction in
its calculations while Rate of Change uses
division. The resulting lines of these two
studies operated over the same data will look
exactly the same - only the scale values will
differ.
This indicator was developed by
Welles Wilder Jr. Relative Strength is often used
to identify price tops and bottoms by keying on
specific levels (usually "30" and
"70") on the RSI chart which is scaled
from from 0-100. The study is also useful to
detect the following:
- Movement which might not be
as readily apparent on the bar chart
- Failure swings above 70 or
below 30 which can warn of coming
reversals
- Support and resistance
levels
- Divergence between the RSI
and price which is often a useful
reversal indicator
The Relative Strength Index
requires a certain amount of lead-up time in
order to operate successfully.The formula for
calculating the RSI is:
The Renko charting method
probably got its name from "renga",
which is the Japanese word for bricks. Introduced
by Steve Nison, a well-known authority on the
Candlestick charting method, Renko charts are
similar to Three Line Break charts except that in
a Renko chart, a line is drawn in the direction
of the prior move only if a fixed amount (i.e.,
the box size) has been exceeded. The bricks are
always equal in size. Example: With a five unit
Renko chart, a 20 point rally is displayed as
four equally sized, five unit high Renko bricks.
The Stochastic Indicator is based
on the observation that as prices increase,
closing prices tend to accumulate ever closer to
the highs for the period. Conversely, as prices
decrease, closing prices tend to accumulate ever
closer to the lows for the period. Trading
decisions are made with respect to divergence
between % of "D" (one of the two lines
generated by the study) and the item's price. For
example, when a commodity or stock makes a high,
reacts, and subsequently moves to a higher high
while corresponding peaks on the % of
"D" line make a high and then a lower
high, a bearish divergence is indicated. When a
commodity or stock has established a new low,
reacts, and moves to a lower low while the
corresponding low points on the % of
"D" line make a low and then a higher
low, a bullish divergence is indicated. Traders
act upon this divergence when the other line
generated by the study (K) crosses on the
right-hand side of the peak of the % of
"D" line in the case of a top, or on
the right-hand side of the low point of the % of
"D" line in the case of a bottom. Two
variations of the Stochastic Indicator are in
use: Regular and Slow. When the Regular plot of
the Stochastic too choppy, the "Slow"
version can often clarify the results by reducing
the sensitivity of the calculations. The formula
is:
Note: 5 Days is the most commonly
used value for %K
%K=100 {(C-L5)/(H5-L5)}
The %D line is a 3 day smoothed
version of the %K line
%D=100(H3/L3) where H3 is the 3 day sum of (C-L5)
and L3 is the 3 day sum of (H5-L5)
STARC bands create a channel
surrounding a simple moving average. The width of
the created channel varies with a period of the
average range; thus the name ('ST' for Stoller,
plus 'ARC' for Average Range Channel). STARC
Bands, in a fashion similar to Bollinger Bands,
will tighten in steady markets and loosen in
volatile markets. However, rather than being
based on closes, the STARC Bands are based on the
average true range, thus giving a more in depth
picture of the market volatility. While the
penetration of a Bollinger Band may indicate a
continuation of a price move, the STARC Bands
define upper and lower limits for normal price
action.
The Swing Index (primarily for
use with commodity trading) attempts to determine
real market direction, and changes in direction,
by making use of the most significant comparisons
between the results (Open-High-Low-Close) of the
current and previous days' trading.
Some analysts believe that price
analysis alone only offers half the information
needed for successful trading. The other part is
time, more exactly time cycles, which give actual
insight into understanding the movements of
markets. Common cycles are the seasonal cycles
apparent in many commodity markets, but cycles
can be detected on intra-day charts as well.
This index (also known as the
"Arms" index, or "TRIN")
measures the relative strength of volume
associated with advancing stocks against the
strength of volume associated with declining
stocks. When used as a short term indicator,
readings below 1.0 are considered bullish while
readings above 1.0 are considered bearish. An
extreme bearish reading would be 1.5 or higher;
an extreme bullish reading would be .5 and lower.
Readings of 2.0 or .3 would be considered
"climactic". For the intermediate term,
a bearish sign is an index over 1.0, bullish
under 1.0. For the long term, the Trading Index
can be viewed as an overbought / oversold
indicator.
Single linear exponential
smoothing was developed in the early 1950s as a
means of prediction along a straight line whose
slope was based on previous data. The Triple
Exponential Smoothing Oscillator (Trix) has now
been developed to act on trends of a higher order
than linear. Trix uses a one-day momentum of a
triple exponential smoothed price series to
produce an indicator which is cycle dependent.
Changes in the Trix direction are less prone to
whipsaws than standard cycle-momentum indicators.
The period is chosen to filter out any
insignificant cycles shorter than the period.
Fourier Analysis or visual observation may be
used to find the proper cycle length of a given
market. Raising the number of days will remove
more small cycles and smooth out the oscillator,
but at the loss of sensitivity. The more
smoothing that is applied to the data, the more
of a lag in the oscillator, but not nearly the
lag of a normal moving average.
This volume indicator addresses
some of On Balance Volume's shortcomings and was
developed by Marc Chaikin. Where OBV assigns all
of a day's volume a positive or negative value,
Volume Accumulation counts only a percentage of
the volume as positive or negative, depending on
where the close is in relation to the average
price of the day. The only time the entire day's
volume is assigned a positive value is when the
close is the same as the day's high. The opposite
applies for a close at the day's low.
This analysis is based on the
idea that stocks bottom from "panic"
selling, after which a rebound is imminent. One
way of measuring this phenomenon is to observe a
widening range between high and low prices each
day. In general a progressively wider range,
observed over a relatively short period of time,
can indicate that a bottom is near. Price tops
are generally reached at a more leisurely pace
and can be characterized by a narrowing of the
price range. This measure of the trading range
takes place over a specified period in order to
determine whether or not an issue is being
"dumped" and is approaching a bottom. A
pre-requisite to a valid bottom is an increase in
the volatility line above the reference line. In
a similar manner, an indication of an imminent
top would be a decrease in the volatility line
below the reference line. As long as volatility
is rising, in all probability a stock will not
approach a top. It should be noted that this
study should be used in conjunction with trend
following analyses and momentum oscillators for
confirmation and accuracy.
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