Stock market in terms. Guide Part 5

   Indicator technical analysis

To increase objectivity of research methods were invented technical indicators that entered the everyday practice with appearance and wide diffusion of computer technique.
According to construction character and types of given signals technical indicators are divided into two basic classes:
- trend-following indicators;
- oscillators.

The trend-following indicators allow selecting the current trend. The majority of tendency indicators are based on averaging and smoothing of price row by means of moving averages. Thereby, all trend indicators are characterized by a certain delay as compared to the dynamics of prices, their signals can be used only for the exposure of trend presence and statement of change of trend direction post factum.

Drawing of moving average (MA) indicator presupposes finding of average values, entering the averaging period (base). At the appearance of new value of price the base moves forward so that the new value got in the period of the average calculation, and the oldest among the before entering values is derived simultaneously. Thus, the average as though "moves" on a price row, and therefore is named the moving average.

In the simple moving average (SMA) is calculated the arithmetic average of prices’ value, entering the averaging period. In other words, each price value is included in the average with equal weight, i.e. all prices are acknowledged identically important. However obviously, that the last values of prices have greater importance for forecasting, than more early ones.

For the account of temporal factor was developed the weighted moving average (WMA), in which each next value of price in the base is given greater weight, than to the previous one.

There also exists the exponentially smoothed moving average (EMA). In it the greater weight is given to the more late values of prices by means of adding of the certain percent of the last price to the last average value, diminished on this percent. The received, in its turn, becomes the last average value etc.

As it was stated above, the moving averages execute actually the function of trend dynamic lines. When prices break through the line of moving average and occupy position above it, it is the signal of upward trend presence. If after some time prices change their position in relation to the moving average, declining under it, it will mean establishment of downward trend.

Another indicator on the basis of the moving average is the family of two or three moving average, drawn on the different periods of smoothing. Moment of positions change of the moving average in relation to each other serves a signal of trend beginning or ending. One of the most popular combinations is combination of 4-, 9- and 18-daily moving averages.

Another original application of the moving average find in the so-called "envelope". Envelope - is two parallel moving averages on the certain percent distance from above and below from the basic, central moving average. The envelope as though wraps a "ribbon" over the bar chart, which at strong market movements can outstrip the envelope and break forth its limits. Signals for the increase and decline are considered reliable only in that case, when prices, besides crossing of central line, go beyond the limits of the envelope measures.

Oscillators make the most numerous group of technical indicators. Oscillators are outstripping indicators in itself, i.e. they allow forecasting the conduct of prices in the near time, that distinguishes them from the indicators of trends that give only late signals.

The momentum indicator shows an absolute difference between the last value of price and its value N-periods ago. Accordingly, depending on the sign of the received value, the oscillator line will be higher or lower than zero level.

When the line of momentum oscillator approaches a zero mark - trend is already ended and it is necessary to be ready to changing of direction of prices movement.
Crossing of line of momentum indicator with the zero line can also serve a signal to the buy/sale. However, such signals should be necessarily confirmed by trend.

The relative strength index has a scale with the value range from 0% to 100% and is one of the most sensible outstripping indicators, allowing to predict further prices’ movement. The rise of indicator lines higher 70% on the background of ascending trend testifies that the market is in the phase of congestion of purchases and determines the possible price decline. When the indicator line falls below 30% mark at the descending trend, it means that the market is in the state of congestion of sales and determines the possibility of price rise.

Intermediate position among other technical indicators occupies MACD indicator (Moving Average Convergence-Divergence). This unique indicator can be used both as the trend indicator and as the oscillator on any temporal intervals. Its value consists in that it works well both at the periods of trend development and during market movement in the trading range.

Action principle of MACD indicator consists in measuring of convergence or divergence of two lines: MACD line and signal line. Even if both on the bar chart and on the indicator there is the ascending trend, the signal to the purchase comes in that moment when the MACD histogram is under the zero line and turns up. If the descending trend is present, showed both on the bar and indicator charts, the signal to the sale comes when the MACD histogram is placed above the zero line and turns down.

   Elliott theory

At the heart of Elliott wave theory lays the idea that the socially mass conduct of participants of exchange game passes the stages of expansion, enthusiasm, euphoria, calming, decline and depression. In accordance with this idea, the process of the directed market (trend) development can be considered as the specific structure from five waves.
Waves 1, 3 and 5 form the directed movement and are named impulsive, and waves 2 and 4 is movement against trend and are named corrections.

Wave configurations, consisting of five waves, can be broken by the periods of depression, when the character of prices dynamics does not allow defining explicitly the next wave cycle. The phenomenon, when one of the impulsive waves is far longer than another, is named tension. The impulse completion follows the correction stage, usually consisting of three waves, designated as A, B, C. Any wave of the full eight wave cycle can be independently broken into analogical cycles. Thus, the examined cycle itself is only the part of the more long-term wave process, developing at the higher level.
Three rules of Elliott wave theory:
1) final point of wave 2 can not be higher than wave 1;
2) among waves 1, 3, 5 wave 3 can not be the smallest;
3) wave 4 can never end in the price area of wave 1.

In Elliott theory is specially formed the wave diagram, correlations within which are given by the Fibonacci ratios (1, 1, 2, 3, 5, 8, 13, 21, 34, 55, 89, 144, .). Fibonacci numbers are used to determine time intervals, through which occur changes of trend, and also to determine the length of development of each Elliott wave both by amplitude and period.

   Japanese candlesticks

The first charts, reflecting price changes on the market, appeared in the West at the end of 19th century. But the few knew that Japanese had developed another method more than 300 years ago. The Japanese charts look as a row of candlesticks, laid out on a table, thus the majority has wicks on both sides.
Japanese consider that the highest and lowest price is relatively unimportant. They pay greater attention to the prices of opening and closing, marked as highest and lowest edges of body of each candlestick. If the price of closing is higher than the price of opening, a candlestick is white, and if vice versa - a candlestick is black. If the maximal or minimum prices go beyond the opening and closing measures, the body of candlestick gains "shades" - vertical lines, showing the proper values.

The Japanese stockbrokers consider that analysis of each separate candlestick, and also groups of contiguous candlesticks allows them to predict, in what direction the market will move in the near future. Certain combinations of candlesticks, which are the signals of turn, continuation or strengthening of tendency, are thus selected. There are the followings models of turn: "harami" (absorption - the body of the second candlestick fully covers the body of the previous one) and "hammer" (candlestick with the small body and long "shade", standing out from the general row).