Technical analysis is a financial market technique that traders use to forecast the future direction of stocks through the study of past performances.
The most popular technical indicators include moving average, exponential moving average, Moving Average Convergence/Divergence (MACD), Stochastic and candlestick patterns.
Moving average is one of the most popular and easy-to-use tools available for technical analysts.
Simple Moving Average (SMA)
A simple moving average is formed by computing the average closing price of a security over a specified number of periods. For example, a 10-day moving average
is calculated by adding the closing price for the last 10 days and dividing the result by 10. 1+2+3+4+5+6+7+8+9+10=55, 55/10 = 5.5 (Assuming that the closing prices for the 10 days are 1-10 consecutively).
Exponential Moving Average (EMA)
An exponential moving average gives greater weight to more recent data. It responds to changes faster than a simple MA. EMA is calculated by multiplying
by a great percentage to the latest data than the earlier data, as opposed to giving the same weight for both.
Ema = Ptoday* K + Emayesterday * (1-K), where
- K = 2/(N+1)
- N = the number of days in the EMA
- Ptoday = today's closing price
- Emayesterday = yesterday's Ema
Moving Average Convergence/Divergence (MACD)
Moving Average Convergence/Divergence or MACD is a technical analysis indicator created by Gerald Appel in the 1960s. MACD consists of three exponential moving averages.
It gives a bullish signal when the two lines crossover. To create MACD:
1. Calculate a 12-day EMA of closing prices.
2. Calculate a 26-day EMA of closing prices.
3. Subtract the 26-day EMA from the 12-day EMA, and plot their difference as a solid line. This is the fast MACD line.
4. Calculate a 9-day EMA of the fast line, and plot the result as a dashed line. This is the slow Signal line.
- When the fast MACD line rises above the slow Signal line, it gives a bullish signal.
MACD-Histogram = MACD line - Signal line
MACD-Histogram is created by the difference between the MACD line and the Signal line, and plots the difference as a histogram. If the fast line is above
the slow line, MACD-Histogram is positive and plotted above the zero line. If the fast line is below the slow line, MACD-Histogram is negative and plotted
below the zero line. When the two lines touch, MACD-Histogram equals zero.
Created by George C. Lane in the late 1950s, the Stochastic Oscillator is a momentum indicator that shows the strength of a trend for a certain period
of time. Stochastic is a number between 0 and 100 where the reading below 20 is considered oversold and the reading above 80 is considered
overbought. To create stochastic:
1. %K = (Ctoday - Ln)/(Hn - Ln) * 100, where
Ctoday = today's close.
Ln = the lowest price for the selected number of days.
Hn = the highest price for the selected number of days.
n = the number of days for Stochastic, selected by the user.
2. Calculate %D.
%D = (3-day sum of(Ctoday - Ln)/(3-day sum of (Hn - Ln) * 100
There are two different stochastic - fast and slow. Fast Stochastic consists of two lines - %K and %D. However, fast stochastic is very
sensitive to market turns and therefore many people prefer to use slow stochastic. To calculate slow stochastic, the %D of fast stochastic becomes the %K
of slow stochastic and by repeating step 2 to obtain %D of Slow Stochastic.
Bullish Engulfing Pattern is a very bullish signal in candlestick. It signals a major reversal pattern after a downtrend. It opens lower than the
pervious day's close and closes higher than the previous day's open.
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