Charting for Beginners

 

So you want to learn how to use share charts to improve your trading results? It may be simpler than you think. The aim is to use price and volume action to identify a sustainable uptrend.

 

In many ways, shares behave in a similar way to children. Some are obstreperous and incredibly difficult to look after. Others are placid and calm, never causing a moment of grief. If you can get to know the child, then looking after them suddenly becomes much simpler. Likewise, if you begin to understand the characteristics of a particular share, you will learn how to treat it. The particular idiosyncrasies unique to that share will suddenly seem within the realms of normal behaviour. Technical analysis provides us with tools to assist in this goal.

 

Weight of Evidence

 

As I mention in my book Trading Secrets, “when several chart patterns and indicators point in the same direction, their signals are reinforced”.

 

Indicators tend to fall into several distinct ‘families’. I suggest that you use at least one of the indicators from each ‘family’ in order to form an opinion about the share price’s likely direction. This is an ideal application of weight of evidence theory. These families are:

 

Ø  The Line Family

Ø  The Moving Average Family

Ø  The Momentum Family

Ø  The Volume Family

Ø  The Pattern Family

 

The Line Family

 

To help you to ascertain which direction a share is trending, you can use trendlines and support/resistance lines. Remember to consider the implications of these lines on weekly, as well as daily charts.

 

The Moving Average Family

 

This indicator plots points that form a line that smooths out the fluctuations present when looking at the share price action.

 

Make it a rule never to buy a share that is trading below its 30-week exponential moving average. It is likely to be in downtrend.

 

The Momentum Family

 

Momentum refers to the rate of change of a price trend. These indicators help traders to establish whether prices are increasing or declining at a faster or slower pace. They will help you to estimate whether breakouts are sustainable and likely to be enduring.

 

The Volume Family

 

Wait for volume to confirm the direction of a trend, especially if you believe that you have identified a turning point in a downtrend.

 

The Pattern Family

 

Patterns will assist in timing our entry point, but the indicators already discussed will aid your interpretation of the overall trend direction. I use the techniques already discussed as a ‘set-up’, and the candlestick patterns as a ‘trigger’ to enter positions.

 

There are literally hundreds of patterns formed by the share price action. Don’t become overwhelmed by the large array of patterns available. Find a few methods of trading that you relate to and use them.

 

How to Use Candlesticks

 

A complete understanding of all of the numerous candlestick patterns will come with time and practice, even if they initially seem a little confusing. Let’s have a look at two conditions that could trigger your entry into a share trade.

 

The Breakout Trade

 

After a period of consolidation between two significant support/resistance lines, the share is primed for action. A bullish entry trigger consists of a break through the established resistance line, preferably initiated with a green candlestick, with heavy relative volume.

 

 

Upside breakout trades tend to work most effectively in confirmed bull markets. They are quite easy to recognise and search for.

 

The Retracement Trade

 

If a share is in an existing uptrend and trading above it’s 30-week moving average, then you can wait for a pull back to a lower price level prior to entering a long position. This can be observed using a daily, weekly or intra-day chart. The art of this strategy is to ensure that the share has not begun a fully-fledged downtrend and that the pullback is a temporary pause prior to the share uptrending again. The pull back can retrace to either an existing trendline, or perhaps a moving average line. Entry can be made with a high degree of probability if there is a bottom candlestick reversal pattern.

 

To see how some of these tools may appear on a share chart, have a look at the weekly chart of DYL. I’ve purposefully chosen a chart that is not current, because I want to discuss the lessons, rather than provide you with specific advice about which share to buy.

 

 

 

Some traders seem intent on getting in at the bottom of a trend, and out at the top of a trend. Your friends may be impressed if you tell them that you rode the entire trend, but in all likelihood, the pursuit of this ‘perfect trade’ will leave you penniless. This has more to do with ego than with any objective form of technical analysis. It is practically impossible to repeat this activity with a high degree of probability ad infinitum.

 

Your analytical skills are your ammunition. These skills can be generalised to any market around the world. Wherever the laws of supply and demand provide a market, you will be equipped with the correct tools to make money. If there is more demand for an instrument, then the price will be driven upwards. If there is a predominance of emotional sellers, the share price will drop like a stone. This concept holds true whether you are trading Soybeans in Brazil or shares in Australia.

 

 

Louise Bedford (www.tradinggame.com.au) is a full-time private trader and author of The Secret of Writing Options, The Secret of Candlestick Charting, Charting Secrets and Trading Secrets.

 

You may also like to see Louise Bedford present “The Secret to Candlestick Charting seminar” Live in Brisbane on August 22nd, 2009