The basic building block of a chart involves graphic display of price and volume action. Whether you decide to use line charts, bar charts or candlestick charts comes down to personal choice. Personally I use candlestick charts, but I can remember when I first became interested in trading I used bar charts, as initially I found them easier to understand. However, I now only ever use candlestick charts.
The Black Box System
There are a number of ‘black box’ systems available on the market, all with an impressive marketing pitch and claims of well above average percentage of accuracy and success. All this does is help make the promoters wealthy. With these systems the software makes all the decisions and you basically follow the prompts. Mind you this can suit some people. You have no idea what prompts the buy and sell indicator. Granted the system can and may work well at times but keep in mind the dynamic nature of the market and the need for subtle alterations to trading plans on a continuing basis.
Bar Charts
It is the goal of every technical trader to determine if a stock is going up, down or in fact moving sideways. Given there is only three directions in which a stock can move this is not always an easy task. The KISS effect (Keep It simple Stupid) is paramount. Simplicity is essential. When first viewing a chart, look at the share’s price movement before adding any indicators.
The bar chart is made up of single vertical lines showing the high and low of that period, the horizontal line on the left of the vertical bar indicates the open and the horizontal line on the right therefore indicates the close. Each individual bar on the daily chart indicates the price action for each day. On the weekly chart each bar shows the opening price at the start of the week and the close will be the last trading price at the end of that week.
Line Charts
A line chart connects the closing prices for each period, day or weekly. It is a good idea to bear in mind that only the closing price is shown, therefore it can be difficult to know if the stock opened above or below its closing price. The line chart provides even less information than the Bar (OHLC) or Candlestick charts. This type of chart is mainly used in newspapers and other printed material.
Candlestick Charts
The single candlestick represents the same data as the single bar, however they look very different. The candlestick chart resembles a series of candles with tails or wicks at either end. Every part of the candle has specific meaning, the opening price, the daily price activity and the closing price. The advantage of candlestick charting is the variety of continuation and reversal patterns. Many patterns are quite unique to the candlestick and can provide a greater number of triggers to enter a trade and many more to indicate the completion of a trend or exit point.
The visual concept of the candlestick chart is very pleasing to the eye and extremely easy to interrupt. Once you become familiar with candlesticks you will find patterns practically jump off the chart at you. The candlestick is by far the chart of choice by most technical analysts.
Take care,
Stock Trading Mum
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When using a stock market trading system, it needs to be calibrated using a much data as possible. In addition, if the system has too many parameters, it will suffer from what statisticians call the “degrees of freedom effect”. Too many parts and the system will break at its weakest link.
We use both systems and at the same time we make judgmental calls to buy and sell stocks based on what the charts are telling us. We feel that the stock market is evolving rapidly with the use of high frequency trading algorithms that hunt for traders stops and buys. In a nutshell, we do not know if the old “support and resistance” theories work in the market place as these are areas that these algorithms now that market participants place their orders. A lot of theories are going to be rewritten in the next 5-10 years as more data becomes available.