Let’s start at the very beginning: With Technical Analysis
From time immemorial man has tried to predict the future. Using omens, soothsayers and the stars, moving through to accountants who delve into the details of a company ‘Dragons Den’ style to decide whether to invest, or big-picture thinking known as macro-economics, the top-down study of global economic trends.
Technical analysts also try to predict trends, but they tend to focus on asset prices themselves believing that everything, everyone, everywhere knows about value is contained in the current traded price. There is detailed evidence of eighteenth century Japanese rice wholesalers using the method, plotting price moves on paper, time along the bottom axis (usually one-day intervals) and price on the vertical.
Commodity traders in the West have also used charts for at least one hundred years, and early last century US stockbrokers too favoured the method. Ideas on the subject were collated by Charles Dow, inventor of the Dow Jones Averages and editor of the Wall Street journal. It has come to be regarded as a valuable tool for investment decisions.
There are several key underlying assumptions, some of which are still slightly controversial today. First and foremost, price reflects all current knowledge with these in turn determined by supply and demand. That an even playing field exists, where all participants have equal access to price dissemination and buying/selling opportunities is necessary – the dreaded ‘transparency’ in today’s jargon.
It also assumes that trends tend to dominate (and therefore moves are not random) and that history has a habit of repeating itself. That moves in one stock, commodity, currency or index must be backed up by other similar and related instruments. In other words, that groups of similar products must trend in tandem. That cycles evolve and can be mapped in a logical manner, with time and distance travelled inexorably linked: a sort of lock-step move. These also give one some idea of where prices might get to and once there, suggest what to watch for in terms of a potential change in trend.
While the subject is easy to grasp at the most basic level, and I have found that children instinctively get the idea of spotting patterns and trends, like so much in life real skill is hard won, and genius rare.
Tags: Dow theory, patterns, Supply and demand
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