Welcome to Technical Analysis 101. Have a seat and pay attention, there will be a quiz at the end.
So what is technical analysis (TA)? Simply put TA is the use of charts to identify patterns and predict future activity. It is impossible to accurately predict the future, but by understanding investors emotions, you can always try keep one step ahead of the pack.
Many different factors effect the price of a stock, anything from weather, inventory, fed interest rate hikes, inflation, sales and so forth. Stocks go up and down and there is little we can do to predict exactly how a stock will react tomorrow. What we can do however is look at what a stock has done in the past, and from that, gauge an approximation of how it should act in the future.
Let us begin with Lesson #1: Support and Resistance
Step one: Looking at a stock chart.
The first thing you want to do is change your chart from a line chart to a bar chart. Lines are nice, but they dont give us enough information about what a stock did intraday. A bar chart shows us the open, the daily move and the close (candlesticks also do this, but we will get to those later).
The importance of having a barchart (or candlesticks, which are similar) is that it allows you to quickly see the range your stock has traded within in that time period. The "range" is the highest and lowest level in that period, this will be important later when we learn about candle sticks.
Now that you have a bar chart, lets do the most basic of all analysis, lets look for support and resistance levels.
Finding support: Starting from the left in Jan 2005, (first blue arrow), you can see that INTC hit the $22 level, then rallied. In April the stock dropped and hit $22, the rallied again. It seems that $22 is a nice support level. Investors are basically thinking "Hmm, I like INTC and would buy it if it hit $22..." and so they do. If we connect those two support levels and extend the line to the right, it shows us a nice long term support level.
Finding resistance: After that first support was found, the stock rallied, but then stalled at $25.50 in March. You can see that in May, the stock blasted right through that resistance level. Note that support and resistance levels do not have to be horizontal, in fact they can be almost any angle. INTC hit $28 in June, and pulled back, that is another resistance point. By connecting the March and June peaks, then extending the resistance level outward, we find that the next resistance point in July was predicted correctly! Later in November we can see that the old $25.50 resistance stalled the rally, but as soon as it broke through, it moved quickly.
Think of support and resistance levels as jello like barrier, sometimes a stock will bounce off them, other times it will cut through.
Note: A stock will not change direction because you drew a line on a chart, but if enough traders and investors are all looking at the same levels, this can become a self fulfilling prophecy. Be aware of what others are are looking at and try use it to your advantage.
Stay tuned for Lesson #2 - Moving Averages