Archive for the 'Technical Analysis' Category

Market Structure Indicators

Market structure indicators are the primary tool of technical analysis. They monitor the trends of various price indexes, market breadth, volume, etc. Technical analysts use them to monitor the health of the prevailing trend.

Market structure indicators include moving averages, patterns, trendlines and peak/trough analysis. Most of the time, the trends for various indicators move together. When the different indicators diverge, or offer different signals, it is often a sign that a trend reversal will take place.

Posted on 10th October 2008
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Flow of Funds Indicators

Flow of funds measures analyze the financial positions of various types of investors to determine their potential capacity to buy or sell stocks. Since every buy order must be matched with a sell order of equal magnitude, flow of funds indicators are not interested so much in the ex-post balance between supply and demand, but with the implications of ex-ante supply and demand imbalances on price.

Although flow of funds measures can indicate an ability to buy or sell, they do not give any sign of the willingness to do so. Furthermore, some of the data is reported with a lag and may no longer be relevant by the time it is available.

Posted on 10th September 2008
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Sentiment Indicators

Sentiment indicators monitor the activity of market participants such as floor traders, insiders, mutual fund managers, etc. The premise behind such indicators is that certain types of investors will have similar reactions to future market events as they have had to past events. These reactions may prove useful for identifying market turning points.

Insiders and New York Stock Exchange members have historically been “right.” They tend to be net buyers at market tops and net sellers at market bottoms.

Advisory services, on the other hand, tend to buy at the top and sell at the bottom. Tracking the sentiment of newsletter writers, for example, may prove to be a useful contrary indicator.

Posted on 10th August 2008
Under: Behavioral Finance, Technical Analysis | No Comments »

Equity Returns at the Turn of the Month

Various studies have documented that the four-day period starting with the last trading day of a month and ending on the third trading day of the subsequent month accounts for the bulk of stock market returns. In the March/April 2008 Financial Analysts Journal McConnell and Xu show that this effect has persisted, and is not confined to small capitalization or low priced stocks. It occurs in 31 of the 35 countries they examined and does not appear to be caused by month-end buying pressure as measured by trading volume or equity fund money flows.

Posted on 5th August 2008
Under: Active Management, Investing in Stocks, Investment Returns, Research, Risk Management, Technical Analysis | No Comments »

Six Stages of Business Cycle Investing

In Technical Analysis Explained, Martin Pring notes that since there are three major financial markets (stocks, bonds and commodities) and each has two turning points in a given cycle, there are six turning points in each cycle. He calls these turning points the six stages and uses them as a reference point for identifying the current phase of the business cycle and by extension the next likely turning point.

Stage 1: Slowing growth rates or early recession. Interest rates start to fall and bonds rally.

Stage 2: Business cycle trough. Stocks begin to rally.

Stage 3: Late recession and early recovery. Commodities begin to rally.

Stage 4: Early recovery. Interest rates trough and bonds peak.

Stage 5: Cycle peak. Stocks peak.

Stage 6: Slowing growth, commodities peak.

Posted on 25th July 2008
Under: Economic Analysis, Investing in Commodities, Investing in Stocks, Investing in bonds, Technical Analysis | No Comments »

Peak and Trough Progression

Peak and trough progressions are a simple tool used in technical analysis to determine the primary trend and identify reversals in the trend. It is based on the theory that markets progress in waves.

In an uptrend, each successive peak and trough will be at a higher point than the preceding one (higher highs and higher lows). In a downtrend, each peak and trough will be lower (lower highs and lower lows) than the preceding.

When a series of rising or falling peaks and troughs is interrupted, it is a signal that a trend reversal may be taking place. For a true reversal signal in a bull market, both a lower trough and a subsequent lower peak must be identified.

Further, the length of time between peaks and troughs can signal whether a trend is a primary, intermediate, or short-term trend.

Posted on 11th July 2008
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Market Movements and the Business Cycle

Major movements in interest rates, equities and commodity prices are related to changes in the business cycle.

Typically, the bond market is the first to signal business cycle turning points. Bonds will begin a bull phase after economic growth has slowed considerably, and often during the early stages of a recession. Bond prices are inversely related to interest rates, so falling interest rates result in higher bond prices.

As the recession deepens, equity investors begin to “look past” the trough in corporate profits. As a general rule, the longer bonds have been rallying prior to the bottom in the stock market, the better the chances of a rally in stocks.

Once the recovery begins, resource utilization begins to tighten and commodity prices bottom.

Posted on 25th June 2008
Under: Economic Analysis, Technical Analysis | No Comments »

Efficient Market Hypothesis: Strong Form

The strong-form efficient market hypothesis assumes that stock prices reflect all information, whether public or private. As such, it encompasses both the weak-form EMH and the semistrong-form EMH. If a market is strong form efficient, it is also weak- and semistrong-form efficient.

In a strong-form efficient market no group of investors should be able to generate excess risk-adjusted returns. Technical analysis, fundamental analysis, and even inside information will provide little value once the information is known.

In essence, the strong form efficient market assumes a perfect market in which all information is cost-free and universally available to all market participants simultaneously.

Posted on 23rd June 2008
Under: Active Management, Fundamental Analysis, Investing in Stocks, Investment Returns, Portfolio Management, Technical Analysis | No Comments »

Classification of Price Movements

Technical analysts classify price movements as primary, intermediate or short-term.

Primary movements tend to be major cyclical movements that last 1-3 years. They represent the general bear or bull markets in effect.

Intermediate movements are short term reversals in the primary trend, usually lasting anywhere from a few weeks to a few months.

Short term movements typically last less than one month and are of a random nature.

Posted on 11th June 2008
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Efficient Market Hypothesis: Semi-Strong Form

The semistrong form of the efficient market hypothesis assumes that security prices adjust rapidly to all publicly available information. Such information includes market based information and thus the semistrong EMH encompasses the weak form EMH (if markets are semistrong efficient, they are also weak form efficient.)

In addition to market information, other public information includes earnings and dividend announcements, financial ratios, accounting practices, stock splits, and economic and political news. If markets are semistrong efficient, investors should not be able to earn excess risk-adjusted returns if their decisions are based on information that has already been made public. Neither technical analysis nor fundamental analysis would provide a predictable edge.

Posted on 23rd May 2008
Under: Active Management, Fundamental Analysis, Investing in Stocks, Investment Returns, Passive Management, Portfolio Management, Technical Analysis | No Comments »