How to Read Stock Charts
Using Stock Charts
Reading stock charts, also known as Technical Analysis, is the method of forecasting the future price movements using price/volume movement history. Technical analysis is not 100% accurate in forecasting financials, but it is a highly valuable tool for finding high reward, low risk trade opportunities.
A chart is a sequence of prices and values plotted over a period of time. The price is represented on the vertical axis and time is represented on the horizontal access. Time is plotted oldest to newest from right to left. Any security (stock, option, commodity, or future) with price data over a period of time can be charted to form analysis.
Selecting a Time Frame
Traders usually use charts made up of daily and intraday price/volume data for interpreting short term movements. Intraday data is used to build daily price data, and daily price data is combined to build weekly data. When doing technical analysis, you will want a 3 dimensional view of stock price history to get a better idea of the longer term price trend.
If you are considering buying a stock and the intraday chart appears to be a good trade over the past few days, you will want to look at the daily chart over the past year. If the stock is in a downward trend, you may consider moving on to other setups that have long term price trend confirmation, meaning the stock has been going in one direction for a period of months. The time frame and compression of data in the combination of charts you use will be determined by your own trading style.
We will be talking about the 3 most popular formats for displaying price on your charts. These formats include line, bar, and candlestick.
This is the most basic form of price display and is built by using only the closing price for the stock in each time period. Some traders believe the closing point is more important than the open, high or low because it disregards intra-period price swings. Line charts are also used when the additional data is not available. Some indices and thinly traded stocks don’t have enough adequate price data for other types of price displays.
Bar charts display price using a single bar for each time period that displays the open, high and low, along with a small horizontal bar to show the open and another to show the close for that period. On a daily chart, each bar would represent the open, high, low, and close for that day. The benefit of using bar charts is that you can fit much more readable data inside a time frame because of the slender shape of each bar.
Candlestick charts were invented in Japan over 300 years ago and were originally used to forecast the prices of rice. Candlesticks have become the most popular style of price display over the past few years. A single candlestick is constructed of an open, high, low, and close. The body of the candle is colored based on if the close was higher or lower than the open price. With most modern day charting or trading platform software, you can select your own custom colors. It is recommended that you used a light color for up candles and a dark color for down candles, making it easier to read the data. Click here to learn more about candlestick charts.
There are several different methods for charting stock price movement. Each method has its advantages and disadvantages and not any single chart will be perfect. It will come down to your own personal preference and trading style. Find what works best and stick to it to build consistency. Switching between using different methods with stock charts can create confusion and hinder your overall performance.
Next, learn how to use Technical Indicators in your charts…