SPOT BUY/SELL OPPORTUNITIES WITH THESE INDICATORS

Transcription

1 SPOT BUY/SELL OPPORTUNITIES WITH THESE INDICATORS

2 TABLE OF CONTENT: Moving Average Bollinger Bands Relative Strength Index (RSI) Moving Average Convergence Divergence (MACD) Parabolic SAR Page 2 Page 3 Page 5 Page 6 Page 8

3 RHB Investment Bank Berhad online clients enjoy FREE access to daily market insights, stock picks and in-depth analyst reports from the interactive Research Plus portal. Clients also have complimentary access to a range of technical charting indicators for further analysis and decision making. These and other exclusive features have been included to help clients from different levels of proficiency to trade online effectively and efficiently across a wide range of financial instruments in local and global exchanges.

4 1 INTRODUCTION Technical Analysis involves the forecasting of the future price of a stock using historical price data. Technical analysts opine that all pertinent information is already reflected in the price. Information from historical price data is used to predict what the future price will be. Popular theories of technical charting like moving average, Bollinger Bands, candlestick charting are used to make forecasts of future prices by tracing price patterns and price trends. The central idea is to estimate the direction of price movements and take positions accordingly. When evaluating price, technical charting proponents frequently use overall trend, areas of support and resistance on the charts, price momentum, volume to determine buy/sell pressure, and relative strength compared to the market. In this ebook, we take a look at five popular indicators used: 1. Moving Average 2. Bollinger Bands 3. Relative Strength Index (RSI) 4. Moving Average Convergence Divergence (MACD) 5. Parabolic SAR Note: These articles first appeared in the monthly RHB Investment Bank Berhad E-Newsletter

5 MOVING AVERAGE 2 OSK188 offers moving average of 3, 7, 12, 26 and 60 days interval. Sell. 7-day MA crosses below 60-day MA The calculation for a moving average point is derived from the calculation of a simple price average. For example, to obtain a 3-day price average, add the closing price of a stock over 3 days, i.e. Day 1, Day 2 and Day 3, then divide it by 3 to obtain a 3-day price average. Buy. 7-day MA crosses above 60-day MA 60-day MA signaling uptrend Sell. 7-day MA crosses below 60-day MA Buy. 7-day MA crosses above 60-day MA To obtain a moving average, remove the closing price for Day 1, and take the SIMPLE MOVING AVERAGE (MA) latest closing price, i.e. Day 4. Total up close prices for Day 2, Day 3, and Day 4; then divide it by 3 to obtain a new 3-day moving average. With every new closing price, remove the oldest closing price and include the latest closing price in the 3-day range to calculate a new average point. Join all the points to obtain a 3-day moving average line. The same method is used to obtain a 7, 12, 26 or 60-day moving average. A moving average is used to spot a trend and gives the investor insight to take the correct trading position. A short-term moving average tends to be busier. A longer term moving average would remove the noise from the line to produce a smoother trend. The general method of interpreting buy/sell signals is by employing both short term and long term moving averages. For example, in the chart above is a 7-day moving average (blue line) and a 60-day moving average (red line). When the 7-day moving average crosses above the 60-day moving average, it s considered a bullish buy signal. If the 7-day moving average crosses below the 60-day moving average, it s considered a bearish sell signal.

6 BOLLINGER BANDS 3 John Bollinger invented one of the most popular price volatility measures the Bollinger bands.this technical indicator comprises: An upper band, A lower band and A 20-day simple moving average of the closing price. Both the upper and lower bands are 2 standard deviations above and below the moving average.the 20-day moving average is the number of days that Bollinger s research showed is the most effective in detecting variance. The bands display relative highs and relative SELL BUY BUY lows in the context of the moving average they re adaptive to the price by the amount of the standard deviation. The bands are moving standard deviations. An interpretation of the bands is based on the premise that the vast majority of all closing prices should be between the Bollinger Bands. Thus, a stock s price going outside the Bollinger Bands, which occurs very rarely, should not last and should revert back to the mean. The general interpretation to Bollinger Bands is: Buy when the price falls below the lower Bollinger band Sell when the price pierces outside the upper Bollinger band Bollinger Bands are effective for spotting trends by virtue of the widening and narrowing bands. An impending narrowing of the bands indicates the end of a trend and the start of consolidation, while the widening of the bands indicate the start of a trend.

7 BOLLINGER BANDS 4 Narrowing of bands indicate end of trend, beginning of consolidation Strong up trend Widening of bands indicate end of consolidation, beginning of trend Widening of bands indicate end of consolidation, beginning of trend As with most indicators, confirmation of buy/sell signals should be done with the presence of other indicators such as momentum and the candlestick price chart itself.

8 RELATIVE STRENGTH INDEX (RSI) 5 One of the 27 technical indicators offered by OSK188 online charting, the Relative Strength Index is a simple indicator that helps ascertain the best time to make a buy/sell call.the buy decision is made at the change of direction when the average up move is stronger than the average down move over a specific number of days (the other way around marks a sell decision). Hence, for a buy call, the average momentum is relatively higher, which explains the term relative strength.the RSI is generally used to: Generate buy and sell signals Show overbought and oversold conditions Confirm price movement Warn of potential price reversals through divergences As RSI is an indicator that uses average, it has a normal range between 30% and 70% of the maximum range. Overbought: When the RSI crosses 70% level, the stock is considered overbought and it s time to get out. (Sell signal) Oversold: When the RSI is at 30%, the stock is considered oversold, and therefore it s relatively attractive for traders to come in again. (Buy signal) Sell when RSI crosses below Overbought Line Buy when RSI crosses above Oversold Line The indicator is clear in the chart above, showing a sell signal as the RSI crosses below the (70) line, signaling a Sell. Furthermore, the indicator confirms a buy signal as the RSI crosses above the (30) line. When trends are strong, stocks can remain overbought or oversold for long periods. However, a divergence between the price and the indicator is a warning sign that the price move may be coming to an end. As with all indicators, the RSI should not be used in isolation but as a confirmation indicator together with other signals. Proponents of RSI opine that it is fast in signaling an impending price change, thus making RSI a good tool to time profit-taking.

9 MOVING AVERAGE CONVERGENCE DIVERGENCE (MACD) 6 The MACD indicator is an effective and versatile tool. Besides signaling buy/sell indicators, the MACD can also be used to sound out potential change in trading direction for stocks and futures. There are three main components of the MACD: MACD: This line is plotted based on the difference between the 12-day and 26-day exponential moving averages (EMA) MACD Signal Line: This is a 9-day EMA of the MACD MACD Histogram: Each bar of the histogram represents the difference between the MACD and the MACD Signal Line How to interpret MACD buy/sell signals? Reading the signals is simple and straightforward. At the point of the MACD crossing over the MACD Signal Line, a trading buy/sell signal is given. This is further confirmed by the MACD Histogram. MACD crossover signal Buy: This is signaled by the MACD crossing above the MACD Signal Sell: This is signaled by the MACD crossing below the MACD Signal The buy/sell signals are also confirmed by the MACD Histogram. MACD histogram As mentioned earlier, MACD Histogram is the difference between the EMAs. Each bar represents the difference between the two moving averages on that date. The interpretation of the MACD Histogram is as follows: At zero: The two moving averages have the same numerical value they have zero difference between them. Bar grows taller: Divergence is growing as difference increases. This indicates that the trend will continue. Bar shrinks: The two moving averages are converging, watch out for a signal change.

10 MOVING AVERAGE CONVERGENCE DIVERGENCE (MACD) 7 MACD histogram Buy: When the MACD histogram is below the zero line and begins to converge towards the zero line. The point of convergence coincides with the MACD crossing over the MACD Signal and indicates the buying point. Sell: When the MACD histogram is above the zero line and begins to converge towards the zero line. The point of convergence coincides with the MACD crossing below the MACD Signal and indicates the selling point. Sell when MACD crosses below MACD Signal Line/ Histogram is at zero Sell when MACD crosses below MACD Signal Line/ Histogram is at zero Buy when MACD crosses above MACD Signal Line / Histogram is at zero Buy when MACD crosses above MACD Signal Line / Histogram is at zero Buy when MACD crosses above MACD Signal Line/ Histogram is at zero The forecasting ability of the MACD indicator makes it a popular choice among technicians. However, as always one must use the indicator in conjunction with another to confirm buy/sell decisions. At all times, it is not advisable to use one indicator in isolation.

11 PARABOLIC SAR 8 A technical indicator created by Welles Wilder, the Parabolic Stop and Reverse (SAR) is a simple enough buy/sell indicator that is a combination of price and time components to generate buy and sell signals. The Parabolic SAR is also effective as a tool to determine where to place stop loss orders. In the chart below, the little blue circles form the Parabolic SAR. Buy Signal: When the price closes above the upper Parabolic SAR, this is a buy signal. Sell Signal: When the price closes below the lower Parabolic SAR, this is a sell signal. The Parabolic Stop and Reverse (SAR) indicator combines price and time components to generate buy and sell signals. The Parabolic SAR is also effective as a tool to determine where to place stop loss orders. SELL BUY BUY Using Parabolic SAR to place stop loss points This tool is useful for traders who want to prevent losses and protect profits with a stop loss order. A stop loss order is placed below the purchase price or above a selling price to minimize losses or protect profits should the price movement not turn out as expected/projected. Once a position is entered, the preceding dot on the Parabolic SAR serves as the stop loss order. Let s take a look at how it s used in the charts on the next page:

12 PARABOLIC SAR 9 C Long position: The day s stop loss order is at the price point on preceding day s Parabolic SAR. Stop loss point for trading on Day B is point A. Subsequently, trading on Day C will have its stop loss point at point B. A B A B C Short position: Stop loss order is based on preceding day s Parabolic SAR point. Trading on Point B, the stop loss order is at Point A. Subsequently, trading on Point C, the stop loss order would be at Point B.

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