Technical Analysis

Reading the Market's Mood

Technical analysis studies price movements and trading volume to identify patterns that may predict future direction. It does not care about earnings, revenue, or the quality of a company's management. It reads the chart. Proponents argue that all known information is already reflected in the price, so studying price action reveals the collective psychology of every buyer and seller. Critics counter that past patterns do not reliably predict future results, and that technical analysis works primarily because enough people believe it works, creating self-fulfilling prophecies. Both camps have a point. Technical analysis is most useful for timing entries and exits on positions you have already decided to take based on fundamental analysis. Using it alone to decide what to buy is playing a pattern-matching game with real money.

Support, Resistance, and Trend Lines

Support is a price level where buying pressure consistently overwhelms selling pressure, preventing the price from falling further. A stock that bounces off $45 three times over six months has established $45 as a support level. Resistance is the opposite: a price level where selling pressure overwhelms buying, creating a ceiling. A stock that fails to break above $60 on four attempts has $60 as resistance. When support breaks, it often becomes resistance. When resistance breaks, it often becomes support. This flip happens because traders who bought at the old support level now want to sell at breakeven when the price recovers to that level. Trend lines connect successive higher lows (uptrend) or lower highs (downtrend). An uptrend line drawn along the lows acts as dynamic support. A downtrend line along the highs acts as dynamic resistance. The more times a trend line is tested and holds, the more significant it becomes. But when a well-established trend line finally breaks, the move in the other direction tends to be sharp.

• Support: price floor where buyers step in. More touches = stronger support.
• Resistance: price ceiling where sellers dominate. More touches = stronger resistance.
• Broken support becomes resistance. Broken resistance becomes support.
• Uptrend: series of higher highs and higher lows. Buy the dip to the trend line.
• Downtrend: series of lower highs and lower lows. Sell the rally to the trend line.
• Horizontal support/resistance matters most at round numbers ($50, $100, $200).

Moving Averages: SMA, EMA, and the Crosses

A moving average smooths price data over a specified period to reveal the underlying trend. The Simple Moving Average (SMA) weights every data point equally. The 50-day SMA is the average closing price over the past 50 trading days. The Exponential Moving Average (EMA) gives more weight to recent prices, making it more responsive to current conditions but more prone to whipsaws in choppy markets. Two moving averages dominate institutional and algorithmic trading: the 50-day and the 200-day. When the 50-day crosses above the 200-day, it is called a golden cross, a bullish signal suggesting the short-term trend has turned positive relative to the long-term trend. When the 50-day crosses below the 200-day, it is called a death cross, a bearish signal. The S&P 500 death cross in March 2020 preceded a sharp decline. The subsequent golden cross in July 2020 preceded a strong rally through 2021. These signals are not infallible. They lag because they are built from historical data. By the time the cross forms, a significant portion of the move has already happened.

• SMA: equal weight to all data points. Smoother but slower to react.
• EMA: more weight to recent prices. Faster reaction but more false signals.
• 50-day MA: short-to-medium term trend. Institutional benchmark.
• 200-day MA: long-term trend. The line between bull and bear market for many traders.
• Golden cross (50 crosses above 200): bullish signal.
• Death cross (50 crosses below 200): bearish signal.
• Both signals lag. The move is partially over by the time the cross forms.

RSI and MACD: Momentum Indicators

The Relative Strength Index (RSI) measures the speed and magnitude of recent price changes on a scale of 0 to 100. An RSI above 70 suggests the asset is overbought (price has risen too far, too fast) and may be due for a pullback. An RSI below 30 suggests oversold conditions (price has fallen too far, too fast) and may be due for a bounce. The default RSI period is 14 days. RSI divergence is a stronger signal than the absolute level. If the price makes a new high but RSI makes a lower high, bearish divergence suggests weakening momentum behind the rally. If the price makes a new low but RSI makes a higher low, bullish divergence suggests selling pressure is fading. MACD (Moving Average Convergence Divergence) tracks the relationship between two EMAs, typically the 12-day and 26-day. The MACD line is the 12-day EMA minus the 26-day EMA. A 9-day EMA of the MACD line is the signal line. When the MACD line crosses above the signal line, it is a buy signal. When it crosses below, it is a sell signal. The histogram shows the distance between the MACD line and the signal line. A growing histogram means momentum is strengthening. A shrinking histogram means momentum is fading.

• RSI above 70: overbought. Potential pullback ahead.
• RSI below 30: oversold. Potential bounce ahead.
• RSI divergence (price and RSI moving opposite) is a stronger signal than absolute level.
• MACD = 12-day EMA minus 26-day EMA. Signal line = 9-day EMA of MACD.
• MACD above signal line: bullish momentum. Below: bearish momentum.
• Histogram shows momentum strength. Growing = strengthening. Shrinking = fading.

Fibonacci Retracements

Fibonacci retracements use horizontal lines at specific percentage levels to identify where pullbacks within a trend are likely to find support or resistance. The key levels are 23.6%, 38.2%, 50%, 61.8%, and 78.6%, derived from ratios in the Fibonacci mathematical sequence. After a stock runs from $100 to $200, a Fibonacci retracement overlay shows potential support levels at $176.40 (23.6% pullback), $161.80 (38.2%), $150 (50%), $138.20 (61.8%), and $121.40 (78.6%). Traders watch for price reactions at these levels. The 38.2% and 61.8% levels are considered the most significant. A pullback that holds at 38.2% suggests a strong trend with shallow corrections. A pullback that falls to 61.8% suggests a weaker trend that may be reversing. A pullback that breaks through 78.6% likely indicates the entire move has failed and a trend reversal is underway.

• 23.6% retracement: very shallow pullback. Strong trend continuation expected.
• 38.2% retracement: healthy pullback in a strong trend. Most watched level.
• 50% retracement: halfway back. Neutral. Could go either way.
• 61.8% retracement: deep pullback. Trend weakening. Last line of defense for bulls.
• 78.6%+ retracement: trend likely broken. Reversal probable.
• Fibonacci levels are not magic. They work partly because enough traders watch them, creating real buying/selling at those prices.

Volume: The Truth Detector

Volume measures the number of shares (or contracts, or tokens) traded in a given period. It confirms or denies price moves. A price breakout above resistance on heavy volume suggests genuine buying conviction. The same breakout on light volume is suspect and more likely to fail. Rising price on rising volume is the strongest bullish signal. It means more participants are entering the market at increasingly higher prices, confirming the uptrend. Rising price on falling volume is a warning. Fewer buyers are willing to pay higher prices, suggesting the rally is running on fumes. Falling price on rising volume is the strongest bearish signal. Sellers are dumping shares aggressively. Falling price on falling volume suggests selling pressure is exhausting itself, and a bounce may be near. Volume spikes (3-5x average daily volume) often mark turning points: capitulation bottoms, blowoff tops, or significant news events. Average daily volume over 20 days is the standard baseline for comparison.

• Rising price + rising volume = strong bullish. Confirmed uptrend.
• Rising price + falling volume = weak bullish. Rally losing conviction.
• Falling price + rising volume = strong bearish. Aggressive selling.
• Falling price + falling volume = weak bearish. Selling pressure fading.
• Volume spikes (3-5x average) often mark turning points.
• Always compare volume to the 20-day average, not to a single day.

The Honest Caveat

Technical analysis works until it does not. It reads sentiment, not fundamentals. A chart cannot predict an earnings miss, a regulatory crackdown, a pandemic, or a CEO resignation. It cannot tell you whether a company's product is good or its balance sheet is healthy. Many technical patterns only "work" because enough market participants believe in them, creating self-fulfilling order flow at certain levels. If everyone places buy orders at the 200-day moving average, the price bounces there. That is not discovery of a natural law. That is collective behavior reinforcing a shared framework. Use technical analysis for timing, not for deciding what to buy. Combine it with fundamental analysis (is this a good business at a fair price?) and risk management (how much can I afford to lose?). No indicator is a crystal ball. Every indicator generates false signals. The goal is to tip the odds slightly in your favor over hundreds of trades, not to predict the future on any single one.