Practice investment management pim3 ch09

CHAPTER NINE TECHNICAL ANALYSIS Practical Investment Management Robert A Strong Outline  Charting The Underlying Logic  Types of Charts  Other Chart Annotations   Technical Indicators Indicators with Economic Justification  Indicators of the Witchcraft Variety  South-Western / Thomson Learning © 2004 9-2 Outline  Old Puzzles and New Developments Fibonacci Numbers  Dow Theory  Kondratev Wave Theory  Chaos Theory  Neural Networks   The Future of Technical Analysis South-Western / Thomson Learning © 2004 9-3 Charting: The Underlying Logic  The technical analyst believes that charts can be used to predict changes in supply and demand and investor behavior  Market participants seldom wait for things to completely unfold They try to anticipate events rather than merely react to them South-Western / Thomson Learning © 2004 9-4 Charting: Types of Charts  The technical analyst uses many types of charts:  line charts  bar charts  point and figure charts  candlestick charts South-Western / Thomson Learning © 2004 9-5 Linear Scale Line Chart Insert Figure 9-1 here South-Western / Thomson Learning © 2004 9-6 Logarithmic Y-Axis Line Chart Insert Figure 9-2 here South-Western / Thomson Learning © 2004 9-7 Bar Chart Insert Figure 9-3 here South-Western / Thomson Learning © 2004 9-8 Point and Figure Chart Insert Figure 9-4 here South-Western / Thomson Learning © 2004 9-9 Candlestick Chart South-Western / Thomson Learning © 2004 - 10 Advance-Decline Line Insert Figure 9-11 (Market Breadth) here South-Western / Thomson Learning © 2004 - 24 Indicators with Economic Justification  A high relative strength ratio, such as a high relative PE, means that investors are willing to pay more for the past earnings of a company than average South-Western / Thomson Learning © 2004 - 25 Relative Strength Ratio Insert Table 9-3 here South-Western / Thomson Learning © 2004 - 26 Indicators with Economic Justification  Advocates of moving averages in stock selection believe that changes in the slope of the line are important  Market indicators can help present data in a more intuitive way and may suggest areas for further investigation However, they cannot always predict the future movements of a stock or of the overall market South-Western / Thomson Learning © 2004 - 27 Indicators of the Witchcraft Variety  The super bowl indicator states that the stock market will advance the following year if the super bowl football game is won by a team from the original National Football League South-Western / Thomson Learning © 2004 - 28 The Super Bowl Indicator South-Western / Thomson Learning © 2004 - 29 Indicators of the Witchcraft Variety  Increased sunspot activity every eleven years leads to better weather for an improved harvest, leading in turn to a stronger economy, and finally to higher stock prices  Hemline indicator : As shorter dresses for women become the fashion, the market advances, and vice versa South-Western / Thomson Learning © 2004 - 30 Old Puzzles and New Developments Fibonacci Numbers 1, 1, 2, 3, 5, 8, 13, 21, 34, 55, 89, 144, 233,  Fibonacci numbers occur frequently and inexplicably in nature  1.618, the golden mean of the numbers, is used to calculate the Fibonacci ratios  Many Fibonacci advocates in the investment business use the first two ratios, 0.382 and 0.618, to “compute the retracement levels of a previous move.” South-Western / Thomson Learning © 2004 - 31 Old Puzzles and New Developments Dow Theory  The Dow theory holds that there are three components in the movement of stock prices:  The primary trend is the long-term direction of the market and is the most important  The secondary trend refers to a temporary reversal in the primary trend  Daily fluctuations in the stock price are meaningless and contain no useful information South-Western / Thomson Learning © 2004 - 32 Old Puzzles and New Developments Insert Figure 9-12 (The Dow Theory) here South-Western / Thomson Learning © 2004 - 33 Old Puzzles and New Developments  The Kondratev wave theory states there is a 50-60 year business cycle  The Chaos theory sees systematic behavior amidst apparent randomness  A neural network is a trading system in which a forecasting model is trained to find a desired output from past trading data South-Western / Thomson Learning © 2004 - 34 Old Puzzles and New Developments Insert Figure 9-13 (InvestmentStyle Topography) here South-Western / Thomson Learning © 2004 - 35 The Future of Technical Analysis  Technical analysis has persisted for more than 100 years, and it is not likely to disappear from the investment scene anytime soon  Improved quantitative methods coupled with improved behavioral research will continue to generate ideas for analysts to test South-Western / Thomson Learning © 2004 - 36 Review  Charting The Underlying Logic  Types of Charts  Other Chart Annotations   Technical Indicators Indicators with Economic Justification  Indicators of the Witchcraft Variety  South-Western / Thomson Learning © 2004 - 37 Review  Old Puzzles and New Developments Fibonacci Numbers  Dow Theory  Kondratev Wave Theory  Chaos Theory  Neural Networks   The Future of Technical Analysis South-Western / Thomson Learning © 2004 - 38 ... mean of the numbers, is used to calculate the Fibonacci ratios  Many Fibonacci advocates in the investment business use the first two ratios, 0.382 and 0.618, to “compute the retracement levels