2. Fundamental Analysis
• The study of:
– Company,
• Products, Management
• Sales, Earnings, Cash Flow, Debt,
• Stock Price to Book Ratio, Stock Price to Earnings
Ratio
– Demographic trends, potential demand for products
– Monetary policy, etc
To determine what a stock should sell for.
3. Fundamental Analysis
• Problems:
– Getting all the necessary data.
– Analyzing all the data
– Predicting the future
– Efficient Market Theory
• “Current price reflects all currently known
information and expectations.”
– So you must also predict the future better than
others.
4. Efficient Market Theory
• If Efficient Market Theory were true:
– P/E Ratio would always be the same
as long as Bond yields remained constant.
– A quarterly graph of P/E Ratio would be
straight line.
5. But P/E Ratio isn’t flat!
So there must be another reason stock prices
go up and down.
6. • What makes a stock price rise?
– A new product? –
– New management? –
– Low Debt? –
– Low Price to Book Ratio? –
– Higher profits? –
– Internet stocks rose 1000% on no profits.
– Stocks often drop on higher earnings announcements.
Market Principles
Maybe
Sometimes
Not Generally
Not By Itself
You would think so, but no.
– More buyers than sellers at a given price? – Yes
8. Market Principles
• What makes more Buyers than Sellers?
– A positive change in investor sentiment about fundamentals.
• Why trends start, But….
• Must have all the data,
• Know how to analyze the company, the economy and
Fed Monetary Policy.
• Predict the future … better than others
– Greed - Fear of missing a move that has already started.
• Why Trends continue beyond reasonable values.
– Desire to play like the Big Boys (The Follow-the-Leader game)
• Why fundamentally weaker stocks rise with others in their
sector.
9. Technical Analysis
• The study of current and historic Price and
Volume action to:
– Discover what a stock, fund or index is doing right now.
– Note the current/prior range of Trader Greed and Fear.
– Watch for changes in Investor Sentiment and Emotion.
– Detect when a Trend or Trading Range has probably
started or ended.
– Predict what a security is likely to do continue doing
in the near term. [Inertia]
10. Technical Vs. Fundamental Analysis
Fundamental Analysis studies
Company Facts and Future Predictions.
Technical Analysis studies
Investor & Trader Sentiment and Emotion.
11. Premise of Technical Analysis
• All known Fundamental Information are
shown in Price.
• All changes in Emotion and Sentiment
are shown in Price and Volume action.
12. Basic Tool of Technical Analysis
• The Chart
– A picture of changes in Investor Sentiment and
Emotions over time.
– Shows where Trader Greed became excessive and
turned to Fear – “Resistance”
– Shows where Trader Fear became excessive and
turned to Greed – “Support”
– Shows when Investor Sentiment has changed. –
“Breakouts” above Resistance or below Support
– Show Investor Commitment – Big Volume Breakout
– Shows when the Public is jumping in – Up trends
– Shows when the Pros are bailing out – Down trends
13. Charts Shows Where:
• Investor Sentiment:
– Turned Negative
– Turned Positive
• Pros bailing out
• Public jumping in
• Trader Emotion:
– Greed turned to Fear
– Fear turned to Greed
10000
1100
1200
1300
1400
1500
1600
1700
1800
1900
2000
2100
2200
INDEXFAMNASDAQ100Index(1,440.00,1,440.00,1,440.00,+8.87000)
Resistance
Support
Breakout
Break
Down
15. Chart Timeframes
• Monthly
• Weekly
• Daily
• Intra-day
– Hourly
– 10 minute
– 2 minute,
Is the Market Fractal? Yes and No.
16. Market Participants
Participant Time in Position Selection Decision
Based on:
Timing Decision
Based on:
Long Term (LT)
Investor
Months to Years Company Fundamentals
Fund Manager History
Charts
Intermediate (IT)
Trader
Weeks to Months Market Rankings Charts
Short Term (ST)
“Swing” Trader
3 – 10 Days Charts Charts
Day Trader Hours Charts Charts
Micro Trader Seconds to Minutes Charts Charts
17. Chart Timeframes by Market Participant
Market Participant Time in Position Chart Used for:
Trend
Determination
Entry and
Exit Points
Long Term
Investor
Months to Years Monthly Weekly
Intermediate Term
Trader
Weeks to Months Weekly Daily
Swing Traders 3 – 10 Days Daily Hourly
Day Trader Hours Hourly 10 Minute
Micro Trader Seconds to
Minutes
5-Minute 1 Minute
The “Factor of 5” Rule.
18. The Pope’s Opinion
• Technical Analysis works best:
– Short Term (“Swing”) Trading
• Large-cap mature Stocks .
• Asset Class Indices using Closed End or ETF Funds.
– Intermediate Term Trading
• Small-cap new High Growth Stock.
• Asset Class Funds.
– Long Term Trading
• Mutual Funds on Weekly Chart
(due to Redemption Fees).
19. Asset Classes
• Asset Categories: Stocks, Bonds, Cash
• Sub Category Characteristics:
– Capitalization: Large, Middle, Small
– Objective: Growth, Value
– Geography:
• Region: US, Europe, Asia, Latin American
• Country: US, Germany, Japan, Mexico, etc.
– Yield: High, Medium, Low
– Risk (Volatility): High, Medium, Low
20. Asset Class
– Securities with similar characteristics and behavior.
– Example:
Stocks + Small Capitalization + High Volatility + Growth
= Small Cap Growth Stocks.
– Why similar Behavior? – Follow the Leader game.
– Factors influencing a security’s performance:
• The General Market 50% factor
• The security’s Asset Class 30% (80%)
• The security itself 20%
23. What Questions can Charts Answer?
• Universe Selection Questions.
• Individual Security Selection Questions.
• Timing Questions.
24. Universe Selection Questions?
(For IT Sector or Asset Class Rotators)
• What Sectors or Asset Classes should I watch?
– Which markets fit my trading style and time?
– Which are too volatile for my risk tolerance (fear)?
– Which are too slow for my needs (greed)?
• Who trades the securities in this Sector/Class?
– Do they have a shorter time-horizon than the one I can trade?
– Can I out trade them?
29. Security Selection Questions:
(For IT Sector or Asset Class Rotators)
• What should I Buy?
– What are the Markets doing right now?
– Which are in Up Trends?
– Which has the steepest trend?
– Which has the best trend?
– Which are attracting Investors?
– Which are attracting Money?
40. Up Trend Patterns
Higher High
Higher Low
Higher High
Higher High
Higher High
Higher High
Higher High
Higher Low
Higher Low
Higher Low
Higher Low
Higher Low
41. Exit Timing Questions
(For All)
• Has Investor Sentiment become Negative?
– Up Trend Line Broken
– Support Breakdown
– Lower High, Lower Low Pattern
• Has Trader Emotion turned to Fear
– Big Volume Breakdown
– Extreme Momentum Reversal
45. ST Trader Timing Questions:
(In Addition to the above:)
– Where are other Traders likely to buy and sell?
(Where is Support and Resistance?)
– What is the measuring objective from the last
pattern?
– Has the trend on 1, 5, 10 Minute Charts reversed?
47. Chart Price Patterns
Type Pattern Examples
Trading Range or
Basing Patterns
Saucer
Cup and Handle
Trending Patterns Stairs (High Low progression)
Continuation Patterns Flags and Penants
Rising Right Triangle in Uptrends
Falling Right Triangle in Downtrends
Reversal Patterns Head and Shoulders Top
Inverted Head and Shoulders Bottom
M’s and W (Double Tops and
Bottoms)
Wedges in uptrends (Tops)
False Reversal Patterns Head Shakes
Indecision Equalaterial Triangles,
48. Chart Volume Patterns
Situation Volume Behavior (Theory)
True Breakout > 150% Average
Up Trends Higher on up days than
down days
Down Trends Higher on down days than
up days
Distribution near Tops Higher but no significant
price gain
Accumulation near
Bottoms
Higher but no significant
price loss
49. Mathematical Indicators
Transforms of Price and/or Volume action
• Remove Noise through smoothing (averaging).
– Smoothing introduces lag.
• Needed for Computerized investing.
– Moving Average = Computerized Trend Line
• Generate mechanical Buy and Sell Signals.
– An attempt to remove subjectiveness and emotion.
– Most created as a stand-alone trading system.
– All have strong points and weak points. [Over 180 cataloged
by International Federation of Technical Analysts.]
• Best to use a combination.
50. Types of Indicators
• Trading Range
• Trend Following
• Momentum
• Cycle
• Volatility
• Risk Return
• Most are graphical, some are Statistical
51. Trading Range Indicators
• Aroon
• Directional Movement System
• Chande Momentum Oscillator
• Commodity Selection Index
• MESA Sine Wave
• Polarized Fractal Efficiency
• Random Walk Index
52. Trend Following Indicators
• Moving Averages
• Linear Regression Line
• Parabolics
• Channels
• Price Channels
• Andrew’s Pitchfork
• Envelops
• Bollinger Bands
• Average True Range Bands
53. Momentum Indicators
• Momentum
• Moving Average Convergence Divergence
(MACD)
• Relative Strength Index (RSI)
• Stochastic
• Williams %R
55. Volatility Indicators
• Standard Deviation
• Bollinger Bands and Average True Range
Bands
• Chakin Volatility Index
• Commodity Selection Index
• Ulcer Index
• Accumulation Pattern Indicator – Pope
56. Risk Adjusted Return
• Sharpe’s Ratio- William Sharpe
• Ulcer Performance Index – Martin and
McCann
• Retracement Adjusted Return - Pope
• Targeted Retracement Adjusted Return –
Pope
67. Timing Volatile Trending Markets
Volatile Markets are Volatile because
Traders play in them!
We can either:
• Smooth out the Trader’s action, or
• Trade only when Traders and Investors
Confirm each other’s direction.
68. Dual MA Crossover System
• Uses two Moving Averages:
– Shorter MA smoothes Trader’s Price Fluctuations.
– Longer MA represents the Trend.
• Works better on volatile securities than:
– Single MA,
– Filtered MA.
73. Cycles and Momentum Studies
• Adding Cycle and Momentum Indicators
can improve your decision making.
• Cycle Indicators
– Commodity Channel Index
– Stochastic
– Etc.
• Momentum Indicators
– Moving Average Convergence Divergence
– Relative Strength Index
– Etc.