AAII Journal/July 1998 31

TECHNICAL ANALYSIS

By Richard L. Evans

Richard L. Evans is a Flossmoor, Illinois-based independent investment adviser who writeson the Dow Theory (708/957-1997). He publishes an investment newsletter called TheRenaissance Report.

A stock’s price at any point in time is the sum total of what all investorsthink about the stock. Whether an investor makes money or loses moneydepends on what others think about the stock, so keeping track of price,which is what technical analysis is all about, should be of interest to allinvestors.

There is, though, more than one way to plot a stock’s price, and thesevarious plotting techniques afford different perspectives on a stock.

To demonstrate the different patterns, I’ve decided to use Intel as an ex-ample, because the stock is well-known and has made some interestingpatterns.

BAR CHARTS

One of the first ways of plotting stock prices was line charts, based onclosing prices. Among the first line charts were the closing prices of the DowJones industrial and rail indexes. In 1928, high and low prices were added,and the utilities average was started. And, as a note for history buffs, thecharts covered six days a week, since trading on the New York Stock Ex-change included Saturdays—not until June 1952 was trading cut back to fivedays a week.

Today, the most common price plotting technique combines the threeprices—the high-low-close bar chart, illustrated in Figure 1. At first only theclosing prices were considered important, as that represents the “final” price.However, high and low prices became more popular, and open price isincreasingly appearing in databases.

Most bar charts also indicate volume, usually below the chart, since it is akey component that indicates which prices are most important.

The number one resource for bar charting is still Technical Analysis ofStock Trends (for more information, see reference sources at the end of thearticle). There are many newer books on technical analysis, but readers shouldstart with the “bible.”

POINT & FIGURE

Another method of price plotting that is enjoying some renaissance ofpopularity is point and figure, illustrated in Figure 2.

Point and figure uses only closing prices, and it uses only price changes;time is not depicted. Thus, if a security is unchanged price-wise for a periodof say, six weeks, no entry is made. It is only when there is a certain specifiedprice change that an entry is made.

In point and figure, each box represents a specified price change; an “X” isentered when prices are rising by the specified price changes, and an “O” isentered when prices are falling by the specified price change.

The box size is generally $1. However, Mike Burke of Chartcraft, whom I

DIFFERENT PERSPECTIVES:A LOOK AT CHARTING TECHNIQUES

Bar charts, point& figure charts,candlesticks, andequivolume chartsall offer differentperspectives on astock’s price andvolume trends.

32 AAII Journal/July 1998

TECHNICAL ANALYSIS

consider to be the keeper of thepoint and figure “flame,” so tospeak, increases the box size to $2for stocks over $100 and reduces thebox size to $0.50 for stocks under$20 a share.

One purpose of most systems oftechnical analysis, including pointand figure, is to identify reversals, toenable investors to either buy or sell,depending on where the reversal isdeveloping. The “3-box” methodis the standard, so for a stock tomove either from the “X”column to the “O” column, orvice versa, a stock must changein price by at least three boxsizes.

Of course, this article coversonly general aspects of point andfigure. The box at the end of thearticle provides additionalreferences you can go to formore in-depth discussions on theuse of point and figure charting.

CANDLESTICKS

Figure 3 illustrates a candle-stick chart, a price plot that hasgained greater visability in recentyears. Interestingly, the candle-stick system, dating back to the

1600s, was used by the Japanese toanalyze the price of rice contracts.

The candlestick system uses open,high, low, and closing prices. Howthe stock closes relative to the otherprices largely determines the shapeand color of the candlestick: Thebody of the candlestick representsthe range between the session’s openand close; if the body is black, thenthe close was lower than the open,

and if the body is white, theclose was higher than the open.The thin lines above and belowthe body represent the highsand lows.

A series of candlesticks willthen lend itself to patternanalysis.

Candlestick charting hasgained some popularity nodoubt due to some of the catchynames of different patternformations, such as Bearish andBullish Haramis; Dark CloudCover; Morning, Evening andGravestone Dojis; EngulfingBearish and Bullish Lines;Evening Star; Hanging Man;Shaven Head; Three BlackCrows; and Tweezer Bottomsand Tops, to just name a few.

Steve Nison is the “guru” ofcandlesticks. His latest book is

listed at the end of the article.

EQUIVOLUME

Figure 4 illustrates equivolume,which incorporates both volume andpricing into a single chart.

The high and low lines are deter-mined by the price; the width of thebox is determined by trading vol-ume. You can see in the Intel

FIGURE 1. BAR CHART FOR INTEL

Source: MetaStock by Equis

FIGURE 2. POINT & FIGURE CHART FOR INTEL

Source: MetaStock by Equis

AAII Journal/July 1998 33

TECHNICAL ANALYSIS

example that some of the largerboxes are associated with the panicsin late May 1997 and early February1998.

Richard Arms created equivolume.His book “Volume Cycles in theStock Market,” is listed at the end ofthe article.

INTEL PATTERNS

Intel was used to illustrate thevarious charting methods be-cause it has been showinginteresting patterns. The forma-tions are illustrated in Figure 1 inthe traditional bar chart, butthey can be more clearly detectedin the other charts.

Intel at the start of 1997 hadbeen moving higher in a nearlyperfect uptrend for six months,up from a low of 321/16 in July1996. It advanced to an earlyFebruary high of 82½ in justabout a straight line. At the time,82½ just seemed like one morenew high. However, subsequentprice pattern development wouldmake 82 a key price level as itrelated to future trading in Intel.

Generally speaking, the longerthe current trend, the more

important the eventual break. In thesecond half of February, Intel’s six-month uptrend was broken. Thecorrection to 627/8 through lateMarch was normal, but after a testof the lows in mid-April, Intel wasoff and running once again. In earlyMay Intel approached the priorhighs, but was thrown back. In late

May, however, Intel had brokenout, which is where the charts inFigures 1 through 4 pick up.

One problem with such widelyheld and highly publicized stocksis that sentiment and trend canchange quickly. In any case,following an “apparent” breakoutin late May to 847/8, the stock gotblindsided as Wall Street turnedjittery on the stock.

The stock closed out May 29 at817/8. The following day, Intelgapped to the downside as thestock opened at 703/16. The stockclosed near the high of the day, at753/4. Volume on the day surgedto nearly 115 million shares,perhaps best illustrated in theequivolume chart in Figure 4.

The selling was short-lived,however. Intel tested the lows inlate June, and by early July the

stock was headed right back up.Note that in mid-July, as the stockmoved through the May 30 gap, thestock could rise relatively free asthere was a lack of resistance. Figure2 illustrates this well, with a longline of Xs, as does Figure 3, with aseries of rising open candlesticks.Then, as the stock moved above the

FIGURE 3. CANDLESTICK CHART FOR INTEL

Source: MetaStock by Equis

FIGURE 4. EQUIVOLUME CHART FOR INTEL

Source: MetaStock by Equis

34 AAII Journal/July 1998

TECHNICAL ANALYSIS

resistance at 82, the stock gappedagain, a breakaway gap.

During the second half of July,Intel formed what might be consid-ered a rising pennant, which by itsown formation is bullish. The stockbroke out at the end of July andthen rose sharply to new highs inAugust. The stock would hit 102 byAugust 6. A stock never looks morebullish than at the very top.

For the next 2½ months Inteldeveloped a descending triangle,which has bearish implications.When the stock dropped belowclear-cut support at 90, it gappedlower: Intel closed October 14 at917/8; on October 15 the stockopened at 859/16, closing at 8611/16,on volume of 66.2 million shares,and while the stock found somesupport at 82, it then continued todrop quickly. The selling ended in aselling climax on October 28, withthe stock hitting a low of 69, onvolume of 51.5 million shares; againthis is well-illustrated by the Figure 4equivolume chart. After the typicalrebound rally, the stock would thenagain sink lower, to a low of 673/8

on December 19.

Most often in a test of the lows,the stock will hold above those lows.Sometimes, especially followingpanics, a stock will edge somewhatlower during a test of the lows. Thelatter situation is especially bullish asthe stock is marked down, but thereis no follow-through selling. Themarket is denuded of stock.

By late December, it is clear fromthe “big” picture on all four chartsthat 67–70 is an important supportfor the stock. Following the mid-December lows, Intel began to bemarked up once again. However, aninteresting development occurred onits march to new highs—the stockran into resistance as associated withthe August-September-October 1997descending triangle. After one lastrally effort to a high of 955/8 in lateFebruary, down went the stock. Asthe stock broke through support at82, another gap panic followed. Theselling would eventually taper off at715/16 in April.

Intel would once again rally on thesupport at 70, but the rally wouldonce again stall as the stock movedinto the resistance above the 82level—and down went the stock.

TECHNICAL ANALYSIS CHARTING REFERENCES

Beyond Candlesticks, by Steven Nison; JohnWiley & Sons; (800) 225-5945; www.wiley.com;282 pages; $65.00.

Volume Cycles in the Stock Market, by RichardW. Arms Jr.; Equis Int’l; (800) 882-3040;www.equis.com; 143 pages; $39.95.

The vendor of the stock charts used in thisarticle, Equis Int’l., also offers a very informativeusers manual which gives brief explanations toprice plotting techniques, along with a host ofother informative technical analysis methods.Information on MetaStock by Equis is available at(800) 882-3040.

Chartcraft

30 Church StreetNew Rochelle, NY 10801(914) 632-0422

Technical Analysis of Stock Trends, by Robert D.Edwards and John Magee; Amacom (AmericanManagement Association); (800) 262-9699;www.amanet.org; 721pages; $75.00.

Point and Figure Charting: The Essential Applica-

tion for Forecasting and Tracking Market Prices,

by Thomas J. Dorsey; John Wiley & Sons; (800) 225-5945; www.wiley.com; 256 pages; $59.95.

Which direction Intel eventuallytakes will be interesting. The 67–70price level has often been support forIntel. The stock may well just beundergoing an extensive “correc-tion.” Moves first through 82, thenthrough 90, would suggest that thecorrection has run its course andthat the stock is on its way tobettering its prior all-time highs of102. All will be well.

However, Intel not only hasconsiderable overhead resistance toovercome, but on relative strength(the movement of the stock’s pricerelative to the overall market) thestock has been losing ground in astrong Nasdaq market.

Sooner or later, support levels fail.If the entire formation, from thestart of 1997 to mid-1998, issomething akin to a massive head-and-shoulders, with support at 70representing the neckline, theneckline-to-head difference (30points to the high of 102) impliesthat if there were a break below 70,a 30-point drop to the 40 level couldoccur. Time will tell, but the Intelpatterns are not especially favor-able.