Sunday, 5 May 2013

Stock Investments Simple Technical Analysis

It will be advisable to invest in Stocks as an asset class in our financial planning and retirement planning process  through mutual funds as they are managed by well-informed and professionals.  However, we also want to invest directly and build some portfolio of equities on our own. Lot of friends are seeking advice as to how to time the markets while trading or investing in stock markets, because most of the time we end up enter at wrong time of the market cycle.

To have a better timing and to carefully monitor some methods we can see here.  It is generally believed that  the market price is not predictable as the most of information inputs are already discounted in the current price, especially in the age of most  modern advancement in communication technology. The principle is called as random walk theory. .... Read more.

However, empirical studies have shown that if you follow simple Moving average momentum etc. you get better returns than simple buy and hold strategies while trading or investing in stock markets.  Read more in the paper..... 

Moving averages are running averages of daily close of stock prices. 200 day Moving average will indicate long term  50 DMA the medium term and 20 DMA, the short term trends

To have such analysis we can list all the fifty stocks in Nifty in a spreadsheet.   We can straight away say that financial institutions enter only when the stock prices go above 200 Day or 10  Month's Moving Average.  For medium term we may use 50 MA.  We may study the ratio of 50 MA value by 200 MA value.

  • Current Prices above 200 MAs are showing Up trend. 
    • If 50 MA is above 200 MA, it indicates strong up-trend.  "Buy" recommendation is given.  50/200 MA ratio will be above 1 and (+) sign is assumed.
    • If 50 MA is below 200 MA, it indicates up-trend but "Hold" recommendation is given. One may hold till 200 MA is violated downside. 50/200 MA ratio will be below 1
  • Current prices below 200 MAs are showing Down trend.
    • If 50 MA is below 200 MA, it indicates strong down-trend. "Sell" recommendation is given. 50/200 MA ratio is below 1 but with a (-) sign.
    • If 50 MA is above 200 MA, it is possible to have a trend reversal. "Wait" recommendation is given.  50/200 MA ratio is above 1 but with a (-) sign.
But over bought and over sold positions in respect of a stock or market can be studied with respect to 52 period high. Though they are better analyzed through Stochastic or Relative Strength measurements, we can attempt over-bought / over-sold positions with respect to distance between 200 MA level and 52 Week High for up-trend and 52 Week Low for down-trend.

  •  Up-trend
    • Prices above 200 MA will be simply up trend.
    • If price rise more than 75% of the range above 200 MA to 52 Week's High, it may be considered as Over-bought we shall wait for a correction to re-enter the stock
    • If price rise falls below 25% of the range above 200 MA to 52 Week's High, it may be considered as Over-sold we shall look for opportunities to enter when price starts moving up.
  • Down-trend
    • Prices below 200 MA will be down trend
    • If price falls below 25% of the range above 52 Week's Low to 200 MA level, it may be considered as Over-sold and no action is advised but one wait for a rally for shorting or selling.
    • If price rises above 75% of the range above 52 Week's Low to 200 MA level, it may be considered as Over-bought and one may look for selling or shorting opportunities
  • The template spreadsheet which will be automatically updated is posted for observation and you may watch how things pan out after investment and you may also watch the page for how your stock fairs at a particular point of time.  Here is the link for the spreadsheet.
  • Column chart graphically how the price compares with 200 MA and 50 MA line shown here.
We shall try to improve the methods and extend to other stocks as well in the future posts.

Mukundan SN, CFA, CFP
Certified Finance and Retirement Planner