Alexandros Dimitriadis (adimitriadis@univ-catholyon.fr) Investment Analysis Alexandros Dimitriadis (adimitriadis@univ-catholyon.fr)

Technical Analysis Technical Analysis is the study of the various forces at work in the marketplace and their affect on stock prices. Focus is on trends in a business’ stock price and the overall stock market Stock prices are a function of supply and demand for shares of stock Used to get a general sense of where the stock market is going in the next few months Several technical indicators may be used together

Technical Analysis Data Charting Shows visual summary of stock activity over time Easy to use and to understand Use to spot developing trends Major types Moving Averages Bar Charts Point-and-Figure Charts

A Stock Chart

Technical Analysis Data (cont’d) Moving Averages Tracks data (usually stock price) as average value over time Used to “smooth out” daily fluctuations and focus on underlying trends Usually calculated over periods ranging from 10 to 200 days

A 100-Day Moving Average Line

Technical Analysis Data (cont’d) Bar Charts Shows changes in stock price over period of time Often used to compare current stock price with moving average When current price goes above or below a moving average, indicates significant price change

A Bar Chart (HLC)

Technical Analysis Data (cont’d) Point-and-Figure Charts Only shows significant changes in stock price patterns Does not correctly take into consideration the passage of time Up patterns are shown as an “X” and down patterns are shown as an “O”

A Point-and-Figure Chart

Using Technical Analysis Data Chart Formations Looking for patterns, or formations, that historically meant that stocks were going up or down Buy when stocks break through a “line of resistance” Sell when stocks break through a “line of support”

Some Popular Chart Formations

Applying Technical Analysis Before financial data/financial statements were required to be disclosed, investors could only watch the stock market itself to determine buy-or-sell decisions Investors began keeping “charts” of stock market movements to look for patterns, or “formations” that indicated whether to buy or sell Studies have shown that anywhere from 20% to 50% of the price behavior of a stock can be traced to overall market forces

Technical Indicators: economic outlook The Dow Theory Market’s performance is based upon long-term price trend (primary trend) in overall market Considers industrial and transport averages Used to signal end of both bull and bear markets An after-the-fact measure with no predictive power

Technical Indicators: economic outlook (cont’d) Trading Action Looks at minor trading characteristics in market over long periods of time Assumes the market moves in cycles and these cycles repeat themselves Trading rules are formed from patterns: January indicator Presidential election indicator Super Bowl indicator

Technical Indicators: economic outlook (cont’d) Confidence Index Looks at ratio between yields on high-grade corporate bonds compared to low-grade corporate bonds Optimism and pessimism about the future outlook is reflected in the bond yield spread Trend of “smart money” is revealed in bond market before it shows up in stock market

Market Technical Indicators Market Volume Pure supply and demand analysis for common stocks Strong market when volume goes up Weak market when volume goes down

Market Technical Indicators (cont’d) Breadth of the Market Looks at number of stock prices that go up (advances) versus number of stock prices that go down (declines) Strong market when advances outnumber declines Weak market when declines outnumber advances

Market Technical Indicators (cont’d) Short Interest Looks at number of stocks that have been sold short at any given time Can give two different interpretations: Measure of Future Demand for Stock Strong market when short sales are high since guarantees future stock sales to cover the short positions Measure of Present Market Optimism or Pessimism Weak market when short sales are high since professional short sellers think stocks will decline

Market Technical Indicators (cont’d) Contrary Opinion and Odd-Lot Trading Measures the volume of small traders Assumes that small traders will do just the opposite of what should be done Panic and sell when market is low Speculate and buy when market is high Bull market when odd-lot sales significantly outnumber odd-lot purchases Bear market when odd-lot purchases significantly outnumber odd-lot sales

Trading Rules and Measures Advance-Decline Line Measures the difference between stocks closing higher and stocks closing lower than previous day Difference is plotted on graph to view trends Used as signal to buy or sell stocks Bull market when advances outnumber declines Bear market when declines outnumber advances

Trading Rules and Measures (cont’d) New Highs–New Lows Measures the difference between stocks reaching a 52-week high and stocks reaching a 52-week low 10-day moving average is plotted on graph to view trends Used as signal to buy or sell stocks Bull market when highs outnumber lows Bear market when lows outnumber highs

Trading Rules and Measures (cont’d) The Trading Index (TRIN) Combines advance-decline line with trading volume Used as signal to buy or sell stocks Bull market when TRIN values are lower Bear market when TRIN values are higher

Trading Rules and Measures (cont’d) Mutual Fund Cash Ratio (MFCR) Tracks cash position of mutual funds High cash positions in mutual funds provides liquidity for future stocks purchases or protection from future mutual fund withdrawals Bull market when MFCR values are higher Bear market when MFCR values are lower

Trading Rules and Measures (cont’d) On Balance Volume Tracks the volume to price change relationship as a running total Up-volume occurs when stock closes higher and is added to running total; down-volume occurs when stock closes lower and is subtracted from running total Direction of indicator is more important than actual value Used to confirm price trends Bull market when OBV values are higher Bear market when OBV values are lower

Efficient Markets Efficient Market: a market in which securities reflect all possible information quickly and accurately Efficient Market Hypothesis: markets have a large number of knowledgeable investors who react quickly to new information, causing securities prices to adjust quickly and accurately

Efficient Markets (cont’d) To have an efficient market, you must have: Many knowledgeable investors active in analyzing and trading stocks Information is widely available to all investors and is free/easy to obtain Events, such as labor strikes or accidents, tend to happen randomly Investors react quickly and accurately to new information, causing prices to adjust

Technical vs. Fundamental: So Who is Right? There is growing consensus that markets may not be perfectly efficient, but they may be at least reasonably efficient Individual investor must determine which approach has merits for their investing decisions