Technical Indicators
Beyond chart patterns, technical analysts use quantitative indicators to measure trend strength, identify overbought/oversold conditions, and confirm breakouts.
Moving Averages
A moving average (MA) smooths out price data to identify the direction of a trend.
- Simple moving average (SMA): Average of closing prices over a specified number of periods (e.g., 50-day, 200-day)
- The 200-day moving average is widely watched as a long-term trend indicator
Golden Cross and Death Cross
| Signal | What Happens | Interpretation |
|---|---|---|
| Golden cross | Short-term MA crosses above long-term MA | Bullish signal - upward momentum is building |
| Death cross | Short-term MA crosses below long-term MA | Bearish signal - downward momentum is building |
- Typically uses the 50-day MA (short-term) and the 200-day MA (long-term)
- A golden cross suggests the beginning of a potential long-term uptrend
- A death cross suggests the beginning of a potential long-term downtrend
- These signals are more reliable when confirmed by high trading volume
Exam Tip: Gotchas
- Golden cross = bullish (short-term MA crosses ABOVE long-term MA)
- Death cross = bearish (short-term MA crosses BELOW long-term MA)
Overbought and Oversold Conditions
| Condition | Description | Implication |
|---|---|---|
| Overbought | Prices have risen too far, too fast; buying pressure is exhausting | Stock or market is due for a pullback or correction |
| Oversold | Prices have fallen too far, too fast; selling pressure is exhausting | Stock or market is due for a bounce or recovery |
- These conditions help identify potential reversal points
- Important caveat: prices can remain overbought or oversold for extended periods - the condition does not guarantee an immediate reversal
Exam Tip: Gotchas
- Overbought does NOT mean "sell immediately." Prices can stay overbought for a long time.
Breakouts
- A breakout occurs when price moves above resistance or below support with conviction
- Volume confirmation: A breakout accompanied by high volume is more reliable than one on low volume
- A false breakout (failed breakout) occurs when price briefly penetrates support or resistance but then reverses back
- False breakouts can trap traders who acted too early
Exam Tip: Gotchas
- A breakout without volume confirmation is suspect (potential false breakout).
Volume Analysis
Volume should confirm the price trend. Interpretation depends on the market condition:
In an Uptrend (Healthy)
- Rising volume on up days - buyers are actively participating
- Declining volume on down days - sellers are not aggressive
In a Downtrend (Healthy)
- Rising volume on down days - sellers are actively participating
- Declining volume on up days - buyers are not aggressive
Divergence Warning
- When price moves in one direction but volume moves in the opposite direction, it signals a potential trend reversal
- Example: prices making new highs on declining volume = weakening trend (bearish divergence)
Exam Tip: Gotchas
- Volume should CONFIRM the trend. Rising volume in an uptrend is healthy; declining volume in an uptrend is a warning sign.