1

Adopting a Personalized Approach to Technical Analysis

A paradigmatic approach to technical analysis does not exist. Technical analysis is a variable

science; its variability is influenced by the confluence of perception and response. Persons

perceive and respond to market stimuli in varied ways; no one perception or response is

exactly similar. Also, market variability is very much influenced by the workings of other

factors outside the ambit of technical analysis; explaining price action (what I shall term the

internal component) without an acute sensitivity of external market forces (external

component) is arbitrarily abstract, though not impossible. Over time, persons adopt a

personalized approach to evaluating market sentiments. This is however, not a

paradigmatic approach.

To the beginner, working with the internal component (i.e. price action) is adequately

flummoxing. Beginners do not employ personalized approaches. Instead, they follow what

they perceive as a paradigmatic approach – from a variety of sources, both established and

otherwise. Winning experiences affirm the beginner’s use of the purported paradigmatic

approach. Conversely, losing experiences challenge the validity of the so-called

paradigmatic approach. Eventually, the trader finds the best-fit approach – not

surprisingly, this is called the personalized approach.

But the beginner will opine: I don’t know enough to follow any systematic approach! This is

unsurprisingly common; everyone starts out in the deep waters. Otherwise, the term

“beginner” is absolutely otiose. In this publication, I shall attempt to elucidate a pseudo-

paradigmatic approach to follow. A pseudo-paradigmatic approach is neither truly

paradigmatic nor personal (this is shaped by adequate experience). Technical analysis is just

so complicatedly extensive that I have no choice but to resort to this.

For ease of reference, a pseudo-paradigmatic approach shall hereby be termed the

personalized approach – not in the slightest way similar to the previous use of the word

personalized.

What constitutes a personalized approach?

Unfortunately, I don’t exactly know – not to mention that I am a novice myself. However,

this is not an uncommon reply; ask any other “more experienced” trader and be prepared

for a similarly confounding answer. If one were to flip through a text on technical analysis

(this publication does not purport to be a recommendation of any texts whatsoever), the

following conclusion is pictorially arrived at:

2

Price Act ion

40%

Trend- following

I ndicators

10%

Oscillator

10%

Combining everyt hing

toget her

40%

Dissect ing a Personalized Approach

Many would probably disagree with me on the mathematical breakdown. After all, this is a

personalized approach and not a paradigmatic approach; to insist on the rightness or

wrongness of a personalized approach is fallacious.

Price Action

Simply put, price action refers to the movement of an asset’s price. To the beginner, price

action is perceived as a haphazard array of lines going up and down – in fact, all the

beginner knows is whether prices went up or down. Conversely, professionals perceive price

action as a matter of resistance and consolidation – a valuable tool to predict future price

movements and the most basic at that. Not forgetting that these “haphazard lines”

constitute 40% of technical analysis, allow me to demonstrate to the best of my ability the

utility of price action.

Undoubtedly, understanding price action is key to technical analysis. Price action should be

understood as a series of horizontal lines, sloping lines and artistic patterns – no difficult

terminology was employed in this process. Consequently, the interplay between horizontal

lines, sloping lines and artistic patterns shed light on what the trader should do. Before

anything else, learning to employ these lines and patterns to a price chart (as illustrated

below) is necessary.

3

Firstly, intuitively employ lines to the price chart. Truly, this is an intuitive exercise of

connecting points on the chart – much like connecting dots. Horizontal lines, as the term

commonsensically implies, refer to the connection of points that are capable of forming a

horizontal line. These lines are commonly referred to as support and resistance lines.

Conversely, sloping lines are trend lines – it is counter-intuitive to describe sloping lines as

lines that slope. Generally, sloping lines are more difficult to employ than horizontal lines.

Traders attempt to connect many points to form a trend line, only to discover that some

points stubbornly refuse to fall on the said line. Eventually, the once lineless price chart is

now filled with lines.

Secondly, interpret the series of lines drawn on the price chart. Of course, this is not easy –

in fact, some may even perceive these lines as an unwelcome and confusing addition.

Nonetheless, these lines do provide the trader with a view of the chart’s skeletal structure:

a. Horizontal lines: Approach the price chart from top to bottom and locate any two or

more points which appear along a horizontal plane – fortunately, it is that simple. In

the example (p. 2), two discernibly drawn horizontal lines (the support is supporting

the prices at the bottom whereas the resistance provides a “lid” at the top) boxes

4

up the entire price action. Prices are moving up and down within the box – this is

sometimes referred to as a trading range. Generally, prices tend to trade within the

box; alternatively, the trader expects prices to stay within the box.

b. Sloping lines: Approach the price chart from left to right and locate opportunities to

draw lines connecting points along a slope – unfortunately, this is not that simple.

Personal preferences play a part here – some insists on an absolute connection

between the points even when it is virtually impossible. Others rely on a best-fit

connection, giving allowances for minor deviations. Personally, the latter should be

preferred – after all, prices don’t move in perfect lines. If prices do move in perfect

lines, then why are we even adopting a personalized approach?

Generally, sloping lines provide a sensing of the prevalent price trend – that is,

whether prices are going upwards or downwards. In the example (p. 2), the

prevailing price trend is nicely summarized by the dotted down trend on the right-

hand side of the price chart. Downward sloping lines must be drawn by connecting

points above the price bars – what is usually described as connecting the lower

highs. Conversely, upward sloping lines must be drawn by connecting points below

the price bars – what is usually described as connecting the higher lows.

c. Artistic patterns: These patterns are formed by an interesting interplay between

horizontal and sloping lines. The trading box is one such “pattern”, although

horizontal lines would suffice for its formation. In the example below, a double top

forms within the trading box – simply put, prices touch the resistance twice.

Necessarily, the double top resembles an “M” shape.

Moreover, the interplay between the support and two sloping lines forms a triangle

– although the apex (tip) of the triangle is not within sight. Prices tend to trade

within the triangle and will only break out nearing the apex - usually at the two-

thirds mark.

There are many other patterns (commonly referred to as continuation or reversal

patterns) identifiable in price charts – but we shall not go into that. In the example

below, the double top is a reversal pattern (or a topping pattern), which may

possibly signal an impending downward trend.

5

Thirdly, predict how prices would move by incorporating volume analysis. Strictly speaking,

volume analysis is not part of price action. However, volume sheds light on the effect of the

lines and patterns employed – effectively, volume determines the accuracy of the price

patterns. With volume, the price chart becomes more convoluted, albeit in a good way.

Volume analysis is the number of assets (i.e. shares or contracts of a security) that have

been traded in a given time period. In other words, traders perceive how high or low the

volume is in correspondence with the price action – this is represented by the height of the

bars at the bottom of the price chart. Price-volume trading is not an easy technique to

grasp. However, if we understand high volume as significant and low volume as

insignificant, life becomes easier – albeit at the risk of over-simplification. Generally, high

volume is significant because it represents a plausible break out from a price pattern, or

even a sloping or horizontal line. The converse is true for low volume.

Several interesting observations are derived from the above example:

6

a. The relatively high bearish volume at the right-hand end of the price chart preempts

a possible breakout from the triangle – but a break out in which direction? If ever

there were an absolutely correct answer, technical analysis would not be subjective

and variable; I wouldn’t have to advocate adopting a personalized approach as well.

However, all is not lost. Discerning traders may realize that the high volume is not

significantly higher than prices initially touched the support (look at the black arrow

and its corresponding volume). Will traders then bank on an upward price

movement?

b. The relatively low volume (in fact, very low volume) at the double tops (look at the

red arrows and its corresponding volume) was insignificant. Prices refused to break

out of the resistance because of insufficient buying volume – quite obviously, the

selling pressure increased and prices plunged back down to the bottom of the box.

This reinforces the idea that the “lid” of the box is a strong resistance.

c. Similarly, the relatively low bearish volume touching the support line (look at the

blue arrow and its corresponding volume) is a telltale sign that sellers aren’t simply

putting enough effort to escape from the bottom of the box. Instead, the buyers

triumphed.

In price action analysis, nothing is certain – dreadful. However, adopting the above

approach does simplify things a little – I hope.

Trend-following Indicators

Many concepts in technical analysis are self-explanatory. This is particularly true for trend-

following indicators. Quite self-explanatory, a trend-following indicator follows the price

trend on a price chart. However, a self-explanatory concept does not mean that it isn’t

complex – in fact, it is confounding. Some traders choose to dispense entirely with trend-

following indicators – they see no utility in it. Conversely, others perceive such indicators as

indispensable – a must have. Nonetheless, trend-following indicators, like oscillators, are

accorded a mere 10% of a personalized approach only because these indicators serve to

complement price action. Bear in mind that trend-following indicators do not supplant the

price action.

The utilization of a trend-following indicator presupposes the existence of a trend – an

uptrend or a downtrend. This means that trend-following indicators work optimally in an

uptrend or a downtrend – but not a sideways trend (i.e. sideways consolidation). However,

this does not necessarily mean that trend-following indicators are obsolete in a sideways

trend – they continue to act as buy and sell signals, albeit in a less effective manner.

The most commonly employed trend-following indicator is the moving average. Moving

averages show the average value (mean value) of an asset’s price over a set period. Similar

to a mathematical average, the moving averages smooth out the price action to appear as a

smooth line – literally (look at the example below). Textbooks usually devote a whole

chapter to moving averages but I shall attempt to condense it to the following points:

7

a. Commonly, there are 2 kinds of moving averages – the simple moving average and

the exponential moving average. The simple moving average is an equally weighted

average while the exponential moving average is an exponentially weighted moving

average – greater weight is assigned to the most recent data.

b. Moving averages come in time periods. A shorter time-period moving average (e.g.

5-period) snuggly follows the price action. Conversely, a longer time-period moving

average (e.g. 10-period) loosely follows the price action, relative to the shorter-

period moving average.

c. The intersection of two moving averages is known as the double-crossover.

Depending on how the two moving averages intersect, a sell or buy signal is

generated.

d. Moving averages are capable of forming support and resistance areas – just like

horizontal lines but moving averages are of course curvy lines. Exponential moving

averages are useful in this aspect.

Bearing in mind these four points, we are ready to interpret moving averages – it is good to

be slightly delusional sometimes. The cardinal principle of a personalized approach is

simplicity. Therefore, complicating an already complicated area of technical analysis

challenges the intent of a personalized approach.

Several interesting observations are derived from the example (p. 5):

a. Prices are trading within a box - meaning that prices are sideways consolidating. In a

sideways trend, trend-following indicators are less sensitive to changes in the price

action. A trader may consider disregarding the use of a trend-following indicator,

choosing instead to rely on price action (which may suffice in this particular

instance).

8

b. 2 simple moving averages were employed – the 5-week and 15-week moving

averages. Generally, when the 5-week moving average intersects above the 15-

week moving average, a buy (or long) signal is generated. The opposite is true for a

5-week moving average that intersects below the 15-week moving average. In the

above example, black arrows indicate intersections of the 5-week moving average

(in red) below the 15-week moving average (in blue). These are sell signals – notice

the slight time lag they intersect with one another when prices have already started

to fall. Conversely, the single red arrow indicates the intersection of the 5-week

moving average above the 15-week moving average – this is a buy signal.

c. Traders anticipate crossovers by observing the confluence (or convergence) of both

moving averages. In fact, the convergence of both moving averages reinforces the

price action analysis.

d. When prices started to wither off in the right-hand side of the price chart, the

frequency of crossovers increased – these should be ignored as far as possible

because of the amount of uncertainty involved. This unpredictability stems in part

from the less efficacious use of a trend-following indicator in a trading box.

Oscillators

Like trend-following indicators, oscillators complement the price action; they do not

supplant price action, hence its 10% weightage. However, unlike trend-following indicators,

oscillators are particularly useful in both trending and non-trending (sideways trending)

markets. Moreover, oscillators do identify changes in the trend even before it has taken

place. In contrast, trend-following indicators usually identify changes in the trend only after

it has taken place (recall the time lag in above example).

Oscillators usefully identify market extremes – the overbought and oversold regions. At a

market top, the oscillator is in the overbought region – so termed because buyers are

exuberantly buying into the market. However, the law of gravity does not spare the

markets – what goes up must come down. Thus, overbought regions are important sell (or

short) signals. Conversely, oscillators are in the oversold regions at a market bottom – so

termed because sellers are either liquidating their long positions or simply short-selling. Up

till this point, you should be appreciating that technical analysis is all about symmetry; buy

signals are always the opposite of sell signals.

Oscillators are not difficult to employ and interpret. Succinctly listed below is the dummy’s

guide (personalized approach) to using oscillators – it isn’t that difficult after all right?

a. Firstly, identify whether the oscillator is in the overbought or oversold region. For

many oscillators, the overbought or oversold region is identified by a fixed number.

For the stochastic (I shall be using this example), the overbought region is at the 80-

mark while the oversold region is at the 20-mark – simple.

9

b. Secondly, depending on the oscillator, identify the relevant crossovers or

intersections at the overbought or oversold region. The relative strength index

escapes this test of scrutiny because it has only one line incapable of intersecting

with itself – brilliant.

c. Thirdly, and in conjunction with the price action, identify whether a bullish or a

bearish divergence exists.

With these 3 points in mind, confidently employ an oscillator to the already convoluted

price chart – good heavens. It shall look like the example below – I have used the stochastic

as an example.

Several interesting observations are derived from the example above:

a. At the first red arrow, the oscillator is at the overbought region. This corresponds to

a possible market top and indeed the price action confirms this – prices are at the

“lid” of the box. Consequently, prices fell because the sellers triumphed the buyers

(sell signal).

At the second red arrow, the oscillator is at the oversold region (refer also to the

current oscillator position on the extreme right-hand side of the price chart). This

corresponds to a possible market bottom and indeed the price action confirms this –

prices are hovering at the bottom of the box. Consequently, prices rose because the

buyers took over (buy signal).

b. At the first red arrow, a relevant crossover or intersection occurred. For the

stochastic, when the faster %K line (dotted in the example above) intersects below

10

the slower %D line (either the blue or red), a bearish reversal is reinforced. This is

particularly true given that the intersection occurred at the overbought region.

At the second red arrow, the %K line intersected above the %D line, signaling a

bullish reversal. The intersecting lines at the oversold region particularly reaffirm

this phenomenon.

c. The black arrows point to a bullish divergence – I would call this a “fake” bullish

divergence because the oscillator was in neither the overbought nor oversold

condition. Nonetheless, a bullish divergence signals a bullish trend reversal – the

converse is true for a bearish divergence. A bullish divergence is characterized by

lower lows on the price action and higher lows on the oscillator.

Finally, combining everything together

By this time, you should be able to appreciate the interdependence between price action,

trend-following indicators and oscillators. Particularly, the trend-following indicators and

oscillators serve to reinforce the trader’s price action analysis. The trader’s conviction

should be strengthened – he should feel confident about placing his trade. This is therefore

the essence of a personalized approach – approaching the price chart in a systematic and

principled manner. Again, it is worth emphasizing that this is not a paradigmatic approach.

As simplistic as it sounds, this last component of a personalized approach is not just a

mathematical addition of price action, trend-following indicators and oscillators. The whole

is greater than the sum of its parts – however, attempting to explain why the whole should

be greater than the sum of its parts is beyond the purview of my ability as well as this

writing. Nonetheless, the following questions should persistently recur in a trader’s

decision-making process:

a. How consistent is the price action with the trend-following indicators and

oscillators?

b. Similarly, how inconsistent is the price action with the trend-following indicators and

oscillators?

c. How can I reconcile any inconsistencies? – Do I use another oscillator or trend-

following indicator?

d. Should I enter a position if I cannot reconcile the inconsistencies between price

action, trend-following indicators and oscillators?

e. If there aren’t any inconsistencies, what is the best time to enter? – Do I enter

immediately or do I wait for the price action to evince a discernible change?

f. Before entering a position, where should I set a stop? – How can price action

analysis, trend-following indicators and oscillators help me with this?

11

Use the above checklist to complement your personalized approach. In sum, technical

analysis is “easy” if you employ a systematic approach as I had done in this writing.

Technical analysis made simple.

Joel Leong

This research material has been prepared by NUS Invest. NUS Invest specifically prohibits the redistribution of this material in whole or in

part without the written permission of NUS Invest. The research officer(s) primarily responsible for the content of this research material,

in whole or in part, certifies that their views are accurately expressed and they will not receive direct or indirect compensation in

exchange for expressing specific recommendations or views in this research material. Whilst we have taken all reasonable care to ensure

that the information contained in this publication is not untrue or misleading at the time of publication, we cannot guarantee its accuracy

or completeness, and you should not act on it without first independently verifying its contents. Any opinion or estimate contained in this

report is subject to change without notice. We have not given any consideration to and we have not made any investigation of the

investment objectives, financial situation or particular needs of the recipient or any class of persons, and accordingly, no warranty

whatsoever is given and no liability whatsoever is accepted for any loss arising whether directly or indirectly as a result of the recipient or

any class of persons acting on such information or opinion or estimate. You may wish to seek advice from a financial adviser regarding the

suitability of the securities mentioned herein, taking into consideration your investment objectives, financial situation or particular needs,

before making a commitment to invest in the securities. This report is published solely for information purposes, it does not constitute

an advertisement and is not to be construed as a solicitation or an offer to buy or sell any securities or related financial instruments. No

representation or warranty, either expressed or implied, is provided in relation to the accuracy, completeness or reliability of the

information contained herein. The research material should not be regarded by recipients as a substitute for the exercise of their own

judgement. Any opinions expressed in this research material are subject to change without notice.

©2013 NUS Invest