Education > Forex - Step3
[SECTION 2.1]
Charting fundamentals
Charts are an invaluable tool for stock and CFD traders. Indeed, any time that you as a trader spend studying price charts is a worthwhile exercise. Charts can be an immense and influential aid to intelligent trading. Familiarity with how they function and with what they show, will enable you to fully harness the advantages that they offer.
To help you become familiar with a range of charts and their effective use, we have provided information on the following topics:
- Chart setup [SECTION 2.1.1]
- Chart time frames [SECTION 2.1.2]
- Chart types [SECTION 2.1.3]
These materials will also explain how state-of-the-art technical indicators can be added to your charts to improve your trading results. As you work through this information, you should fully understand each step before progressing to more advanced material.
[SECTION 2.1.1]
Chart set up
We shall begin by showing you how a simple stock price chart is created.
Stock price charts (see figure 1) are two-dimensional and therefore revolve around only two axes. The X axis is horizontal while the Y axis is vertical.
Figure 1-Basic chart set up
The X axis runs horizontally along the bottom of the chart and shows the timeline. The most distant data appears on the left of the chart. The most recent appears on the right.
The Y axis runs vertically up the right side of the chart providing a price scale for the chart. Lower prices appear at the bottom of the chart while higher prices are at the top.
Taken together, the two axes allow you to determine the price at which a stock was trading at any time falling within the parameters of the chart. It is easy to see, for example, that the S&P 500 was trading at 13,675 on 14 March 2007 (see figure 2).
Figure 2-Identifying the date and price
[SECTION 2.1.2]
Chart time frames
Charts allow you to track the price movements of stocks or CFDs in which you have an interest on a minute-by-minute or month-by-month basis. The charts are flexible so you can select whichever time-frame is best for you.
Traders who are more interested in short-term trends and investments will, as a general rule, tend to use shorter time-frames for their charts. Conversely, traders who are more interested in long-term trends and investments will tend to use longer time-frames for their charts. For example, traders who hope to capitalise on temporary price surges will typically use one-minute or five-minute charts. Traders who have long-term investments will rely more on daily or weekly charts.
Some traders use multiple time-frames so that they can chart stock or CFD movements from different perspectives. This technique is explained later.
Changing the time-frame on your chart to suit your needs is easy. Click on the button at the top of the chart. A drop-down menu will appear. Then you select your preferences (see figure 3).
[NEEDS CHART OF A STOCK WITH THE DROP-DOWN MENU]
Figure 3-Chart time frames
[SECTION 2.1.3]
Chart types
Saxo Bank charts let you analyse the price movement of any stocks or CFDs in a variety of formats. These include line, bar and candlestick charts, so they are very flexible. Traders are individuals and the system has been developed to accommodate their individual preferences.
Technical analysts typically use one of the following three chart types:
- Line charts [SECTION 2.1.3.1]
- Bar charts [SECTION 2.1.3.2]
- Candlestick charts [SECTION 2.1.3.3]
[SECTION 2.1.3.1]
Line charts
Line charts are the most basic chart type because they are simple. With line charts, it is easy to identify support and resistance levels.
Line charts plot the closing prices for each trading period and then connect them with a single line (see figure 4).
[NEEDS LINE CHART OF A STOCK]
Figure 4-Line chart
[SECTION 2.1.3.2]
Bar charts
Bar charts contain more data than line charts. Line charts only show closing prices but bar charts show the opening and closing prices, as well as the high and low prices, for each period.
It is important to realise that these bar charts are more complex than the elementary bar charts we all used at school. Each bar is effectively shaped like a tree (see figure 5).
You create the chart by plotting a series of these bars across it. Each bar represents one trading period. To create each bar, you mark the high and low prices of a trading period and connect them with a vertical line. Imagine this as a trunk on which the highest price will always be at the top and the lowest price at the bottom.
Then you mark the opening price to the left of the vertical line you have just drawn, and connect that point to the vertical line (i.e. the trunk) with a horizontal line. So you now have a branch to the left.
Finally you mark the closing price to the right side of the vertical line (the trunk), and connect that point to the vertical line with a horizontal line. That means you will now have a branch to the right.
Looking at the bar, you can instantly see if the stock gained or lost value between opening and closing. If the ?branch' on the right is higher than its counterpart on the left, then the value climbed between the open and close. If the ?branch' on the right is lower than the one on the left, then the value fell between the open and close.
Meanwhile, the height of the ?trunk' shows whether the value of the stock or CFD fluctuated a great deal during the trading for this period. A short ?trunk' (or, indeed, a trunk that is non-existent) means that the price remained very stable.
This information can be used as a predictive tool. If the stock or CFD closed on a high, for example, then the ?branch' on the right would be at the top of the ?trunk'. If you are interested in short-term gains, you might be tempted into thinking that the stock would continue to rise as soon as trading recommences. Of course, this would be a gamble. Equally it would be a gamble to assume that a stock or CFD which closed on a low would continue to fall when the market opened again. The function of the bar chart is to give you the right data to make an intelligent decision.
Figure 5-Price bar
The bar chart enables you to identify performance trends. If the price of a stock or CFD rose during the period, then investors were bullish (i.e. confident and likely to buy). If the price lost during the period, then investors were bearish (i.e. not confident and likely to sell).
See an example of a complete bar chart below (see figure 6).
Figure 6-Bar chart
[SECTION 2.1.3.2]
Candlestick charts
Candlestick charts are a Japanese invention dating back to the 18th century. They were initially used to track deals on the rice market. They show the same information as bar charts, but their format is a little different. Candlestick charts appear to make it easier for most traders to spot patterns.
Essentially, the process is not so different from how you would create a bar chart.
To create a candlestick chart, you must plot a series of candlesticks. Each candlestick represents one trading period. To create an individual candlestick, you plot the high and low price of a trading period and connect them with a vertical line. This line is called the wick of the candlestick. This is the same in essence as you would have done for a bar chart.
Next, you plot the opening price by drawing a horizontal line through the vertical line or wick. This is similar to what you would have done when creating a bar chart. But this time you cross all the way through the vertical line (see figure 7).
Then you plot the closing price by drawing another horizontal line through the vertical line. Again, this is very much like a bar chart but you cross all the way through the vertical line.
These two horizontal lines effectively mark the top and bottom of the body of the candlestick.
Finally, you can fill in the area between the opening price and the closing price (rubbing out the wick which would disappear within the candlestick). This area is the body of the candlestick.
Figure 7-Price candlestick
Like the bar chart, the candlestick chart helps you to follow trends. If the price of a stock or CFD rose during the period, then investors were bullish. If the price fell, then investors were bearish.
The choice between bar charts and candlestick charts is in reality, a personal one. Both continue to be popular and self-evidently provide identical information. However, some feel that candlestick charts make it a little easier to determine whether there has been a substantial overall price shift between the open and close and whether the entire period's trading has been within narrow or broad confines.
You can see an example of a candlestick chart below (see figure 8).
Figure 8-Candlestick chart
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