Tips from the Worden brothers on how to read stock charts
But if it that was simple, more of us wouldn't be worried about not having enough for retirement. Before you buy or sell, here are five things to keep in mind, Peter and Chris Worden of Worden Brothers told WalletPop in a telephone interview:
What the charts tell you
Once considered by many on Wall Street as selling snake oil, reading stock charts is now widely accepted throughout the investment community as an integral part of analyzing stocks.
By graphically displaying a stock's price over years, it provides a window into what the company is worth now and at various parts of its history. It also shows what investors are willing to pay for a share of the company's stocks. Regardless of what the company's balance sheet or income statement looks like, the stock's value remains what someone is willing to pay to own it. So sometimes, especially during bear markets, you'll see lots of companies with good earnings but declining stock prices. Meanwhile, mediocre companies will have share prices that trade at levels that are unbelievably expensive. By understanding when irrational exuberance meets reality, an investor can do very well for himself.
What they won't tell you
Stock charts cannot tell you whether a company's new acquisition will eventually drive it into bankruptcy or help it capture market share well into the next decade. It can't even predict if the company will announce good earnings for that year. You'll need to scan the business pages for that.
Factors to consider
Since the Worden brothers' father started the company, the field has grown. There are bar charts, lines charts and candlestick charts, just to name a few. Then there are at least 100 different technical indicators which may be applied to the chart.
When scanning a chart, take a look at the price today and compare it to what it has done over time. Does it make sense? Are there any noticeable trends? What kind of activity is taking place in both the price and volume of shared traded? Are more people buying or selling it? Are there certain levels where the price is "hitting overhead resistance or certain levels where the price is finding support," explained Peter.
He continued, "Cisco had blowout earnings last quarter – the CEO commented it doesn't get any getter than this. But look at what the stock is doing – it reacted poorly to a good earnings report and actually began its decline ahead of the overall market. Stock prices fluctuate based almost entirely on investor psychology. Fear will drive prices down and greed will drive prices up."
Freestockcharts.com -- a free web-based live streaming stock charting service that the Worden brothers recently launched -- allows you not only personalize your "page" with your choice of stock charts, it also sends you alerts as to when a stock moves up or down a certain amount, or when the trading volume exceeds the average.
Don't get tunnel vision
When looking to make a move, don't just look at the price of the stock at that moment, said Peter. Read the chart from left to right so you can get the whole picture and get a grasp of the trends for that stock.
Nor should you focus on every little swing up and down and feel you must assign a reason for the way the price is moving, or worse, feel forced to make a trade. "Forcing it in terms of chart interpretation is never a good idea," added Chris. "There are a lot of patterns. The key is to look at lots and lots of charts. Over time, your charting reading skills and your ability to recognize familiar patterns will improve greatly."
It's essential to keep in mind that at any given time, 70%-80% of charts are telling you nothing. You need to be able to suss out the ones that put the odds in your favor and help you beat the crowd.
Making the call
So what are these "patterns"? One is the head-shoulders-topping pattern, which can suggest a potential top in the stock's price. Combine it with a "technical indicator" -- a math formula that takes into account price and sometimes volume -- to your price graph, it can also confirm and possible forewarn of a future price drop.
For example, with the Monsanto Company, the shoulders "are not always perfectly symmetrical, but the price peaks associated with each shoulder are close in proximity," explained Peter. "The neckline helps to define the lower level of the overall head-and-shoulders pattern. When the neckline is breached, the pattern has come to fruition and typically the stock's decline is then in full swing."
Add the Worden Stochastic indicator at the bottom, and you can see as the right shoulder formed in September of 2008 that there had already been significant loss in the price momentum one month prior. "This lent further credence that a head-and-shoulders top was forming," he concluded.