|Using a Combination of Technical Indicators|
Using a Combination of Technical Indicators
Please note that we have used historical data. These examples are for educational purposes only.
Whenever you see an analysis of a particular market, take a look at the indicators being used. One of the most common mistakes is to put all of your faith in one indicator alone, when you should be using several to confirm buy and sell indications.
In this issue of ChartFilter newsletter, we'll take a look at the benefits of using several indicators in combination, and some of the possible combinations.
CURRENT TRENDS - Learning from Nortel
Nortel (Reuters) Lingering effects from a massive selloff of Nortel earlier this week continued on Friday, October 27th as investors appeared leery of holding the stock over the weekend. Nortel, the world's second largest telecom equipment supplier, closed down C$4.30 at C$65.50.
We've seen Nortel (NT:TSE, NYSE) take a big dive in the last week of trading. If you live in Canada, you've no doubt been interested in the latest market roller coaster, particularly since this one stock makes up almost 30% of the weighting on the TSE. What can we learn from examining this market? If we take a look at the chart, along with several indicators, we can see that the indications of a trend reversal have been quite clear. Short-term or momentum investors have had plenty of warning to exit this particular market for several weeks. Yes, that's weeks, not days... let's take a look.
Here's a daily price chart of Nortel showing the price activity for the past year, along with its 20 and 50-day Moving Averages. I've also shown the Money Flow Indicator (MFI), MACD, and DMI/ADX. As we saw in the last issue of ChartFilter, MFI attempts to measure the amount of money buying a stock vs. the amount of money selling a stock.. MACD is an oscillator that uses a formula based on Moving Averages. DMI/ADX are two indicators developed by Welles Wilder Jr. that provide a good indication of the trend and the overall strength of the market.
I've drawn trendlines to make price trends more apparent...
We've had several indications of a possible trend reversal for Nortel over the past few weeks.
Take a look at the point I've labeled "Pt A" on the chart above, which occurred at the beginning of September. We had three indications of a possible trend reversal at that point (with the price at the $75-$80 level):
About a week later, in early September, at "Pt. B" on the price chart, MACD broke down through its Zero line (with the MACD histogram in negative territory). MFI also plunged relatively suddenly to its Zero line and even made a brief foray below this line. Nortel was at about the $65-$70 level.
In late September, at "Pt. C" MFI crossed below its Zero line a second time and stayed there. This represented the first time in the past year that MFI had given such a strong negative signal. The price was at the $60-$65 level.
You'll say that hindsight is always easy and I agree full heartedly! The point is, however, that several indicators have provided significant warnings to the alert investor over the past two months.
If you were invested in Nortel and were looking for a good point to sell, these indicators have offered three excellent opportunities to make your move. (If you are a long-term investor using a "Buy and Hold" approach, you may be inclined to ignore these signals - but at least you'll understand what they are telling you). Given what we've seen here, I hope you can see the value of tracking several indicators at the same time to gain the benefit of confirming signals.
TIPS & TECHNIQUES - Using Several Indicators
There are over 40 indicators featured on ChartFilter.com. Where do you begin? I would recommend starting with the following approach to using a combination of indicators in your analysis.
Start with moving averages and draw trendlines to give you an idea of mid to long-term trends.
Use one or two oscillators, such as MACD, stochastics, RSI, etc. Pick one or two that you feel most comfortable with and go with them. I often use MACD because it provides such clear signals and one other. MACD compliments, but does not replace, some of the others which are better suited as overbought/oversold
Use a volume indicator, such as OBV, MFI, etc. (see the last issue of ChartFilter newsletter for examples of their value)
You might want to check if one of the bands or channels gives you any additional information (Bollinger bands, price channels, MA envelopes, etc).
You may also want to use a more advanced indicator. I recommend Wilder's indicators; DMI, ADX and the Parabolic SAR. These are in themselves complimentary indicators and provide extremely useful buy and sell signals.
In addition, you may be interested or have experience with some of the more sophisticated charting approaches, including point & figure and candlestick charts, as well as some of the more complex systems, including Elliot Wave, Fibonacci and Gann analysis. These will certainly add a very useful dimension to your trading abilities, IF you have the time and inclination to do them justice. I wouldn't recommend them for the casual investor, however.
PROFIT POTENTIAL - Teleglobe Inc (TGO: TSE)
Have you ever read or heard something about a stock that caught your interest? Dumb question! We're surrounded by hot tips and potential opportunities. For example, here's a recent news item on Teleglobe that caught my attention:
Stockhouse News Desk -- On Tuesday, October 31, Teleglobe [TGO] will hold a shareholder meeting to seek approval of its acquisition by BCE [BCE]. A positive outcome may spark action in the stock.
How would you go about evaluating this stock? (please remember I'm speaking strictly from the technical analysis perspective for the purpose of this article - don't forget to do your due diligence in terms of the financials and other fundamental criteria) Let's take a look at some charts for Teleglobe using several indicators to see what kind of light they might shed --
These charts are telling us a different story from the Nortel charts. Here are my observations:
We can see that Teleglobe is giving us some bullish signals and is likely preparing for a continued uptrend in the near future. Of course, you need a trading strategy to take advantage of a possible move (entry and exit strategy), but at least you have a set of bullish indicators to give you some confidence that the potential for profit is there.
If you continued to watch this particular stock you would probably want to know when the price broke through $24, when ADX broke through 20, and when the MACD histogram crossed the zero level and turned positive. This is were an automatic alert system would come in very handy!
Putting ChartFilter into Context
ChartFilter is meant to complement your overall trading knowledge and decision-making. This newsletter focuses on applying technical analysis (TA) methods to various markets; but this is not to say that you shouldn't be considering important fundamental criteria, such as EPS or revenue, as well. Think of ChartFilter as your TA assistant; not as your overall trading strategist.