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This video introduces you to bar charts and candlestick charts and discusses the use of linear and logarithmic scaling on the vertical price axis. This is the start to learn technical analysis.
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Hi there sylvain vervoort here with your first basic technical analysis video. If you like this video series about basic technical analysis and applying technical analysis techniques for your trading, pay a visite to my website at stocata dot org. We will start looking at two chart types I am using and we will talk about using a linear or logarithmic scaling on the vertical price axis. The final purpose of this series is to teach you how to trade successfully using technical analysis.
Although there are many chart types, we will only use a bar chart or a candlestick chart.
In a bar chart the highest and the lowest price in a given bar period, which could be minutes, hours, days, weeks or even months, are connected with a vertical bar. The opening price is represented by the tick mark at the left side of the bar; the closing price is represented by the tick mark at the right side of the bar. The bar chart is used mostly in Western technical analysis.
The candle chart has its roots in the Far East. Steve Nison introduced the candle chart to the Western world in his book, Japanese Candlestick Charting Techniques. Candle charts more clearly depict price development in a trading period. The body of the candle represents the move between the opening and closing prices. If price closes above the opening price, the candle body is blank (in the example chart here white). If the stock price closes below the opening price, the candle body is filled (in this example chart here black). A candle can be either a body or a body with long or short wicks, called shadows that reach to the highest and lowest prices in the period considered.
The recognition of candle-chart patterns requires an in depth study. We will discuss most of these patterns in the videos about candlechart patterns. Candle patterns can be used as part of the short term decision making process to buy or to sell a stock.
If you are using a division of halve a dollar on a linear scale, a price change from $3 to $6 comprises 6 divisions, whereas a price change from $6 to $12 comprises 12 divisions.
This means that the distance on the vertical axis from $6 to $12 is twice as large as the one from $3 to $6. On the other hand, a price change from $3 to $6 or from $6 to $12 equals the same 100% price increase. A price moving from $5 to $10 or from $100 to $105 is the same distance on a linear scale. Clearly, this does not provide a good visual impression of what the price movement really represents.
Moving from $5 to $10 equals a 100% price increase, but moving from $100 to $105 equals only a 5% increase. To have the same distance on the vertical axis representing equal percent changes, you can use logarithmic scaling. We use the expression “semi-logarithmic scaling” because there is a linear time scale on the horizontal axis and a logarithmic price scale on the vertical axis. This means that the distance on the vertical axis from $3 to $6 is now the same as the one from $6 to $12, namely a 100% price increase.
This gives a much better visual impression on charts with large price moves.
For a chart with small overall price changes up to 50% or even more, the difference between a linear and a logarithmic scale will be hardly visible on the screen.
On a linear chart you would use the standard linear line to draw trendlines on the chart. Right clicking on a trendline in MetaStock brings up the properties window and allows you to draw a parallel line to the selected line. Moving any of these lines anywhere on the chart does not change the inclination of that line. The right condition if you want to draw parallel lines to form a trend channel.
On a logarithmic chart you can use a linear trendline. But right clicking on that trendline to draw a parallel line to the selected line will not give you the expected result. Moving any of these lines anywhere on the chart will change the inclination of that line. Simply because the linear start and end point of the trendline comes into another price range of the logarithmic vertical scaling. To draw a trendline on a logaritmic chart, you must therefore use a logarithmic trendline. Creating a parallel line now and moving any of the trendlines around in the chart will no longer change the inclination of that trendline, because both chart and trendline use the same logarithmic scaling. Hence again the right condition if you want to draw parallel lines to form a trend channel.
When there are large price moves, applying a linear scale can be a disadvantage. We draw a linear trendline here from the bottom through the first reaction point and extent this linear trendline into the future. Lets change the color to red so that we can distinguish it more easily. Next we create a logarithmic trendline through the same points, also extending it into the future. Now we have a look at the price evolution 1 year later.
As you can see the linear trendline moves farther away from the price action, while the logarithmic trendline gives exact support at different dates to the low prices. In most cases drawing a logarithmic trendline will be much more accurate on a linear scale when there is a large price move. Logically the best thing to do is to use always a logarithmic scale with logarithmic trendlines. That way it will always be right and you will always see a straight line and you do not have to think about what to use.
Still most people will use linear scaling on daily price charts, which is fine as long as the price moves within limits. More often, logarithmic scaling is applied to longer-term charts, such as weekly or monthly charts, mainly because the price moves are much more significant.
That’s it for the introduction to bar charts and candle charts and the use of linear or logarithmic scaling for the vertical price axis. I hope you enyoyed it. Watch out for the next video. Stay in touch, subscribe to my channel, give me your comments, rate this video and pay a visit to my website: stocata dot org.
Have a nice day and I hope I see you in my next training video.
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Hypothetical Performance Disclosure: Hypothetical performance results have many inherent limitations, some of which are described below. no representation is being made that any account will or is likely to achieve profits or losses similar to those shown; in fact, there are frequently sharp differences between hypothetical performance results and the actual results subsequently achieved by any particular trading program. One of the limitations of hypothetical performance results is that they are generally prepared with the benefit of hindsight. In addition, hypothetical trading does not involve financial risk, and no hypothetical trading record can completely account for the impact of financial risk of actual trading. for example, the ability to withstand losses or to adhere to a particular trading program in spite of trading losses are material points which can also adversely affect actual trading results. There are numerous other factors related to the markets in general or to the implementation of any specific trading program which cannot be fully accounted for in the preparation of hypothetical performance results and all which can adversely affect trading results.
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