The basics of reading charts
Technical analysis has undergone a renaissance of sorts over the last few years. Whereas technical analysts were once seen as little more than soothsayers trying to divine information from charts, modern traders now are looking to charts to find any edge they can get.
The expansion of more short-term, day and intraday strategies have made technical analysis a more efficient way to analyze the markets. Add to that the very size of the traders who utilize this approach, and every trader needs to understand the technicals because its practitioners have grown to a size where they can become a fundamental that needs to be watched.
"With the changing dynamics of regulation and fundamental data coming out of the blue as it does these days, traders are looking for an edge in the one thing that does not change, human nature," says Craig Russell, director of active trader products at Interactive Data Desktop Solutions. "At the core, technical analysis is a read on the human nature of those participating in the market. Those participants broadcast their opinions through their actions."
Charts are useful because they quickly can transmit large amounts of information visually that would otherwise be unwieldy to absorb or analyze in other formats. To that end, Barbara Rockefeller, founder of Rockefeller Treasury Services and author of "Technical Analysis for Dummies," says, "The written chart is more powerful than the written word." Additionally, because of the systematic nature of technical analysis, she says it instills discipline in a way that fundamental trading cannot.
Although technical analysis has gained acceptance, getting started still can be a confusing ordeal. Here we attempt to unveil some of the mystery and explain some of the basics of reading a chart.
There is no one standard chart, but there are a number of standard options for a price chart. "As far as reading charts goes, it’s important to remember that the chart makes the analysis. In other words, the symbol in the chart, the bar interval, bar style and the data in the chart all make up the environment that goes into the analyses," says Michael Burke, vice president of client training and education at TradeStation.
Most charts today are comprised of a series of vertical lines in either bar chart format or candlestick format. Both show open and close prices as well as highs and lows for the bar, the difference being what each emphasizes. "A typical bar chart shows the magnitude of volatility in a single bar in relation to the other bars. The primary focus is on the high, low, and where the bar opened and closed," Burke says. "With candlestick charts, the focus is on the relationship between the open and the close, and the high and low are secondary. There is a whole science of unique patterns related to candlestick charts."
Digging deeper, each individual bar or candlestick represents a set amount of time that can be adjusted by the trader depending on what information is needed at the time and the trading timeframe desired. Most charting packages give options for bar durations ranging from as long as a month to as short as one minute.
Your trading horizon plays a large part in determining which bar duration is best for you. "There is no ‘one size fits all’ answer, there is no best timeframe; there is only what is best for you and your own personality/trading. Is a five-minute chart better than a daily? No, they are just different," Russell says.