The question is, do they work. And the answer is, yes and no. A chart will NOT tell you what is going to happen tomorrow. No matter how highly regarded some technical analyst might be, a chart tells you just one thing perfectly, it tells you what Happened. Not what’s going to happen.
I’m sure a bunch of you are moaning and groaning and saying colorful words about me. It’s okay, I’ve heard them all. But the fact still remains, charts show you where a stock has been, but it does not tell you where it’s going.
Stock charting has been a “thing” since the times of the Japanese Samurai’s. Over the centuries there’s been literally thousands of different types of charts created, and tens of thousands of “indicators.” Line Stock Charts, High Low Close Bar Stock Charts (HLC) Open High Low Close Bar Stock Charts (OHLC), Japanese Candlestick Charts, Volume at Price (VAP) Stock Chart, EquiVolume Stock Charts, Point and Figure (P&F) Charts, Market Profile Stock Charts, etc., etc. etc.
The question is, do they work. And the answer is, yes and no. A chart will NOT tell you what is going to happen tomorrow. No matter how highly regarded some technical analyst might be, a chart tells you just one thing perfectly, it tells you what Happened. Not what’s going to happen.
I’m sure a bunch of you are moaning and groaning and saying colorful words about me. It’s okay, I’ve heard them all. But the fact still remains, charts show you where a stock has been, but it does not tell you where it’s going.
So Bob, does that mean you don’t use them? Not at all, I use them every single day and have for 30+ years. Well, if they don’t work, why use them? Because we have to define “work.” See, charts ABSOLUTELY do give you a reason to SUGGEST that a move up or down is coming, but they don’t guarantee it.
The issue is NEWS. News trumps charts every time, without fail. You’ve all seen it happen and if you’ve been in this game for more than a month, you’ve probably witnessed it. A stock has that perfect chart. It’s been moving from lower left to upper right in a perfect ascending line. The indicators you might use, such as moving averages, stochastics, MACD, etc. are all in perfect shape. So you are RIGHT to assume it will go higher over the near futures.
But what if overnight, the news hits that their office was raided by the FBI for fraudulent activity? That stock is going to open the next day down, and depending on the price of the stock it could be down 10 bucks, 40 bucks, 100 or more. News Trumps charts every time.
Now that’s an extreme example, but you can project that to mean all manner of news. In other words, that company might not do anything wrong at all, in fact it’s functioning like a fine swiss watch. The chart is a thing of beauty, and you assume it’s going higher. But the European Central bank hikes rates overnight. For no fault of its own, that chart is going to get wrecked the next day as they sell off the whole market.
So, while charting is indeed a very valuable tool, and I base the bulk of my trades on them, one must always realize that one lousy news item, will blow that chart up. This happens with single stocks, and it happens with entire indexes too, it just depends of the severity of that news.
Many years ago, I realized that holding a stock over its earnings release was simply too dangerous. I well remember a heated conversation I had with a guy way back in the 90’s. He was holding a few hundred shares of a stock that was doing well, and it was scheduled to release earnings at 7:30 am the next morning. I said that “if it was me, I’d take my profits here and not hold it over.” He got agitated, and said these exact words “the market knows everything, and there’s not one hint of any trouble in this chart, if they were going to miss, the chart would tell me.”
So of course, the next day, they missed spectacularly, and this guy was looking at an open, about 16 dollars lower. So much lower that not only was all his profit gone, he was red by 10 bucks.
A chart will NOT, repeat, will NOT keep you out of a situation like that. Likewise, we’ve seen companies with a perfect chart, do a really pretty respectable earnings release, but then during the conference call, say one little thing they didn’t like and “boom” down it goes, perfect chart and all.
With all that in mind, with the fact that charts can suggest where things are going and VERY often, they’re spot on, we use them. But we never blindly follow one. There’s always news lurking, so you have to consider the entire economic picture.
I find my best charting is keeping it simple. I use candlesticks. I like to first look at a 6-month period. For indicators, I use 8-day Exponential moving average, 21-day EMA, 50 day and 200 day. I use MACD, I use stochastics, and often Bollinger bands. That’s about it.
Often in a rising market, which up until the last few weeks of wicked chop hit, a quality stock will “ride” the 8-day EMA higher, and if it loses that, it will often use the 21-day EMA as support and then reclaim being over the 8 day. It’s a good indicator. Is it perfect? Hell no, I’ve witnessed spectacular crashes through the 8, 21 and on to the 50.
We use charts every single day and couldn’t do what we do without them. I simply wanted to say that with all the newly minted traders in this Covid lockdown inspired market, way too many people are getting crushed because “the chart looked good.” Yeah, well so did the charts on the table of the Titanic.
Use them, but don’t forget the overall environment. Use them together and you’ll up your chances. Good Luck.