Foundations of Trading: A Trader’s Journey [Part 2]

Welcome to part two of our blog series: A Trader's Journey. We are covering the first tier of the Foundations of Trading class program in this series. In our first blog, which you can review here, we took the first step of your trading journey, explained the differences between traders and investors, and introduced you to candlesticks. Today, we are going to take a deeper dive into candlestick charts, starting with what is a stock chart?

​What Is a Stock Chart?

A stock chart is a graphical representation of a company's past stock performance. It displays through simple graphics the previous price points where people buy and sell a company's stock. Understanding the pivot points of support and resistance can be useful when predicting the future performance of the stock in question. Plus, if you look close enough at individual chart candles and various candlestick patterns, they can reveal the trader sentiment behind a company's stock performance.

​The Line Chart

A line chart is created by using the closing prices for each day from the stock in question. Simple lines are drawn to connect each point to provide a very clean chart from which you can quickly determine the overall trend and direction. Line charts are also excellent when using technical analysis to find support and resistance points. See below for an example of a line chart using Adobe.

However, line charts have some limitations as well. They only show the stock's closing price, which means other data factors such as open price, high price, and low price are excluded. This, in turn, makes it hard to assess and place a trade by only using a line chart.

The Candlestick Chart

A candlestick chart displays the same information as a bar chart; however, it does it slightly differently, which can be a little easier to read and digest. While the bar chart uses a single vertical line to show the opening and closing prices for the day, a candlestick chart uses a wider shape called a 'body.' See below for an example of a candlestick chart using Adobe.

Due to the graphical difference from the line chart, a candlestick is better at emphasizing the difference between the opening and closing prices of a stock. A candlestick chart allows us to see all the relevant data points of the day. It uses colors to make identifying price point quick and easy. It offers insight into trader sentiment in a cleaner format.

Now that you have your charts let's take a moment to discuss the main driving factor to the change in a company's stock price. In other words, what makes all those candlesticks go up and down and, in a word, it's speculation. The fair market value of a company can be established by analyzing their financials which are mainly reported quarterly as their earnings. When you calculate the company's financial worth, you can then figure out what the value of each share of stock should be.

However, this realistic approach is very rarely the case as the present value of a stock is usually whatever someone is willing to pay for it. It is the law of supply and demand in action. If someone wants a stock, they will pay the asking price. If a lot of people want the same stock, the law of supply and demand kicks in, and the price on the limited shares available will go up. The great thing about all of this is people's buying and selling behaviors can be tracked, and you can place trades off of past buying and selling price points because people are predictable, and price has memory. And that, my friend, is the core principle of technical analysis.

​What is Support?

Support can be identified on a candlestick chart as the price point a stock will historically struggle to drop below. These are known rallying points where buyers pull together and turn a fall in the stock price into an upturn. ​​The more buyers you have on a stock tends to drive the price higher, as more people are bidding on a smaller number of available shares. It can also be said that areas of support are known price points where investors find it very attractive to purchase shares of a company's stock, especially when investors consider the company's perceived worth in question. These points of support can be identified and tracked on a candlestick chart, and you can make statistically confident trading decisions based on them.

What is Resistance?

Resistance is where the price point of a stock will typically fail to rise above during a period of time. These are known rallying points where sellers exit their long trades and tend to turn a rise in the price point of a stock into a downturn. ​​Thus, the more sellers you have on a stock tends to drive the price lower as more people are selling their shares to a shrinking pool of buyers. Also, areas of resistance are known price points where investors find it very attractive to sell their shares of a company's stock as they feel the price point is an overvaluation of the company's perceived worth.

​In Closing

The concept of support and resistance is central to the philosophy of technical trading. Remember, the more points of support you can find at the same price, and the more likely a stock will not fall below the connecting time periods as pressure from buyers pushes the price of the stock back up. The reverse is true as well; the more points of resistance you can find at the same price, the more likely a stock will not rise above the connecting time periods as the pressure from sellers purchasing the stock drives the price back down. In this part of the journey, it is imperative to take the time to draw your support and resistance lines as they are reoccurring price points, which can be very strong statistical indicators and help you to frame your trades.

​Finally, if you are looking to start your stock trading journey, then follow this link to purchase the recordings of the live Foundations of Trading classes which you can review as many times ​as you would like. Plus, after you purchase, join us on our discord server to answer any questions you may have. Thank you!