Understanding technical analysis is key when trying to catch momentum based breakouts and identifying support and resistance levels. Here are a few commonly used technical indicators and what they tell us about a stock:
50day MA (Moving Average): The average closing prices of a stock over the last 50 days. A break of this line could signify a confirmed breakout. We also look for stocks that already trade above it which may indicate there is less upward resistance.
200day MA (Moving Average): The average closing prices of a stock over the last 200 days. A break of this line may confirm a bull run but also may signify that the run may be over and act as a resistance barrier leading to retracement or consolidation. If a stock is above the 200day MA, it will typically act as support. If a stock is below it, the 200day MA will typically act as resistance.
MACD (Moving Average Convergence Divergence): Shows the relationship between two moving averages of prices. The MACD is calculated by subtracting the 26-day exponential moving average (EMA) from the 12-day EMA. A cross of the MACD Line and Signal is a good indicator that the trend is going into positive divergence which may lead to a bullish breakout. If the line crosses over the 0.0 region, bullish divergence is usually confirmed.
RSI (Relative Strength Index): Compares the magnitude of recent gains to recent losses in an attempt to determine overbought and oversold conditions of a stock. Generally we like to see this on an upward slope around the 50 area. Between 50 and 70 is usually what we refer to as the “Power Zone”. Above 70, a stock is usually considered “Overbought” while below 30 usually shows a stock is “Oversold.”
Bollinger Bands: Bands plotted two standard deviations away from a simple moving average used to measure volatility. When the markets become more volatile, the bands widen (move further away from the average), and during less volatile periods, the bands contract (move closer to the average). The tightening of the bands is often used by technical traders as an early indication that the volatility is about to increase sharply.
Fibonacchi Retracement: A term used that refers to areas of support or resistance. The Fibonacci retracement is the potential retracement of a stock’s original move in price. Fibonacci retracements use horizontal lines to indicate areas of support or resistance at the key Fibonacci levels before it continues in the original direction. These levels are created by drawing a trendline between two extreme points and then dividing the vertical distance by the key Fibonacci ratios of 23.6%, 38.2%, 50%, 61.8% and 100%.