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  • 1. On technical analysis
  • 2. Technical analysis: The concept
    • Technical analysts believe that , in the long run, prices move towards their fundamentals.
    • The flow of information is random, however, the market is slow to respond, thus, generating recurring patterns.
    • It pays to exploit these patterns before others can identify them, provided we can recognize them as they emerge.
    • Recurring patterns tend to self-destruct.
  • 3. Technical analysis: Classification
    • Charting
    • Sentiment Indicators
    • Flow of Funds Indicators
    • Market Structure Indicators
    • Miscellaneous
  • 4. Charting
    • The Dow Theory:
    • Primary trends, intermediate trends, minor trends, support levels, and resistance levels are analyzed to produce buy or sell signals.
  • 5. The wisdom behind the Dow Theory
    • On January 31st,1901 Charles H. Dow wrote in the Wall Street Journal:
    • "A person watching the tide coming in and who wishes to know the exact spot which marks the high tide, sets a stick in the sand at the points reached by the incoming waves until the stick reaches a position where the waves do not come up to it, and finally recede enough to show that the tide has turned.
    • This method holds good in watching and determining the flood tide of the stock market."
  • 6. The Six Commandments
    • 1. The Averages Discount Everything.
    • An individual stock's price reflects everything that is known about the security
    • 2. The Market Is Comprised of Three Trends: Primary trend, Secondary trends, and Minor trends.
    • 3. Primary Trends Have Three Phases.
    • The First phase is made up of aggressive buying by informed investors in anticipation of economic recovery and long-term growth.
    • The Second phase is characterized by increasing corporate earnings and improved economic conditions
    • The Third phase is characterized by record corporate earnings and peak economic conditions
    • 4. The Averages Must Confirm Each Other.
    • Ex: The Industrials and Transports must confirm each other in order for a valid change of trend to occur.
    • 5. The Volume Confirms the Trend.
    • 6. A Trend Remains Intact Until It Gives a Definite Reversal Signal.
    Source: equis.com
  • 7. A classic buy signal
    • Follow the movements of a stock or market index
    4. Break up (above the bounce high) 3. Pullback 2. Bounce 1. Market low
  • 8. Buy signals: Variations Follow the movements of a stock or market index 4. Break up (above the bounce high) 3. Pullback 2. Bounce 1. Market low
  • 9. A classic sell signal Follow the movements of a stock or market index 4. Break down 3. Bounce 2. Pullback 1. Market high
  • 10. Sell signals: Variations Follow the movements of a stock or market index 4. Break down 3. Bounce 2. Pullback 1. Market high
  • 11. The Dow Theory: Support and Resistance
    • “ Think of security prices as the result of a head-to-head battle between a bull (the buyer) and a bear (the seller).
    • The bulls push prices higher and the bears push prices lower.
    • The direction prices actually move reveals who is winning the battle.”
    • Source: equis.com
  • 12. More on “support” and “resistance” levels... Source: equis.com
  • 13. More on “support” and “resistance” levels...
  • 14. Japanese candlesticks: Bullish signals Bullish doji star Morning star Bullish engulfing lines Piercing line Hammer Long white (empty) line
  • 15. Japanese candlesticks: Bearish signals Hanging Man Dark cloud cover Bearish engulfing lines Long black (filled-in) line Evening star Shooting star
  • 16. Voo-doo investing
  • 17. Sentiment Indicators
    • Trin
    • Trin = Vol(declining)/Vol(advancing)][Number(declining)/Number(advancing)]
    • If 1 market is bearish (reported in the Wall Street Journal)
    • Odd-lot ratio
    • odd-lot-ratio = odd-lot buys/odd-lot sales
    • Odd-lot traders are believed to miss key market turning points; hence when they buy it is likely that the bull market has already missed its course.
    • A ratio > 1 is a bearish signal. (reported in the Wall-Street Journal)
    • Barron's Confidence Index
    • BCI= avg yield on high grade bonds/avg. yield on top ten intermediate grade bonds;
    • An increase in the index signals a bull market, a decrease of the index signals a bear market; The index is always less than one
    • Put/Call ratio
    • PCR= outstanding put options/outstanding call options
    • A ratio over one signals a bearish market
    • Mutual fund cash positions
    • Measure the sentiment among investors who are believed to be poor market timers.
    • An increase in these cash positions shows the funds concerned about falling markets, hence, sending a bullish signal.
  • 18. Flow of Funds Indicators
    • Short Interest could be an indicator of future latent demand for stock, or it could signal "informed" selling by institutional investors.
  • 19. Market Structure Indicators
    • Moving averages
    • They signal a bear market when they go above current market prices, or a bull market when going below current market prices.
    • Market breadth
    • It measures the extent to which movements in the market index is representative of the individual stock price movements.
    • MB = Number of advancing - Number of declining.
    • Relative strength
    • It measures the extent to which a security has outperformed its industry or the market.
  • 20. Miscellaneous
    • The Superbowl Rule :
    • In a year that an original NFL team wins the Superbowl the mrket is likely to rise for the rest of the year. The opposite is true when a AFC team wins the Superbowl.
    • The Presidential Cycle Rule :
    • In the second year of the presidential term, the market is likely to fall, and in the third year it is likely to rise.
    • The Hemline Indicator :
    • The market index tends to rise and descend with the hemline of women's dresses.
    • Etc.
  • 21. The Value Line Enigma
    • Each week, Value Line Investment Survey reviews almost 1,700 traded companies.
    • Stocks are ranked into five groups, according to their expected price appreciation:
    • group 1: the best expected performers
    • group 5: the worst expected performers
    • The ranking is done with a use of a formula that takes into account:
    • Earnings momentum
    • Stock's relative price
    • Relative strength
  • 22. The Value Line Enigma: The Devil is in the details
    • Between 1965 and 1990, the groups performed as predicted.
    • The average annual return of group 1 stocks was 22%.
    1965 1990 Initial investment: $10,000 $1,500,000 (dividends and transaction costs excluded).
  • 23. The Value Line Enigma: The Devil is in the details
    • The Value Line Centurion Fund which manages a portfolio made of group 1 stocks has underperformed group 1 by 1,100 bp !
  • 24. The Value Line Enigma: Possible reasons for underperformance
    • High turnover = high transaction costs (the portfolio has to be rebalanced every week):
    • - bid-ask spread
    • - brokerage fees
    • Fund overhead
    • However, ( transaction costs + fund overhead ) don’t add up to the difference  
  • 25. The Value Line Enigma: More on possible reasons for underperformance
    • Measuring performance against prediction assumes the stock is purchased on Wednesday at close, yet the fund re-balances the portfolio on Friday and the readers read the survey on Friday morning .
    Group 1 is being re-evaluated The bulk of the price increase in group 1 stocks takes place between Thursday and Friday. The survey reaches the public The VL Centurion Fund rebalances its portfolio Group 1 is being re-evaluated The survey reaches the public The VL Centurion Fund rebalances its portfolio Wed Thu Fri Sat Sun Mo Tue Wed Thu Fri Group 1 stock stock price Group 1 stock stock price
  • 26. More on possible reasons for underperformance
    • The US Postal Service could be moving fast in some parts of the country; hence some readers might get their subscription on Thursday.
    • Smart investors anticipate the change in ranking in advance. They know the formula and watch closely group 2 stocks. If earning reports come in better than expected, some of them will move up.
    • On Friday morning, everyone will want to buy into the same stocks, thus pushing the price very high.
  • 27. A dramatization
    • A stock sells for $ 10 on Wednesday at close.
    • Value Line forecasts it will rise in value over the next weeks or so.
    • However, the information does not reach the market effectively until Friday morning.
    • At the opening bell, there are hundreds of buy orders for that stock.
    • As a result, the stock goes to $ 14. 
  • 28. Visualization Wed Thu Fri Sat $10 $14 The survey reaches the public Some early birds figure out group 1
  • 29. A dramatization: Summary
    • Did the stock rise as predicted?  Yes, one-week return = 40%
    • Did investors make a good return? No, the majority of them bought at $ 14, (minus transaction costs) Some early birds made a return of 27% (minus transaction costs)
  • 30. Etc. To learn more: http://www.equis.com/ [[]] http://www.stockcharts.com/education/What/MarketAnalysis/dowtheory1.html#intro

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