Warning: I’m nerding out today … on stock charts. Scoff all you want, but charts are critical to trading smart. If you pay attention I’ll show you how to read stock charts .
One of my all-time favorite books is “Reminiscences of a Stock Operator” by Edwin Lefèvre (1923). It’s a biographical novel based on the life of legendary trader Jesse Livermore. The main character in the book, Larry Livingston, goes through ups and downs as he learns to trade. He gains and loses fortunes more than once.
On the subject of reading stock charts, Livingston says this…
“… a chart helps those who can read it or rather who can assimilate what they read. The average chart reader, however, is apt to become obsessed with the notion that the dips and peaks and primary and secondary movements are all there is to stock speculation. If he pushes his confidence to its logical limit he is bound to go broke.” (Emphasis mine.)
Reading stock charts is fundamental to trading penny stocks. When I started trading I put stock charts up on my wall. I studied them and learned to understand what they meant. I learned to love charts and hope you will, too.
In today’s post, I’ll explain chart-reading basics. I’ll show you the information they can provide and why you should study charts from the past.
I’ll also give you names of patterns to look for and links to posts about specific patterns. Finally, I’ll provide links to sites where you can study charts. For a deeper understanding of charts, I suggest you apply for the Trading Challenge.
Let’s get straight to it…
Table of Contents
- 1 How to Read Stock Charts for Beginners
- 2 What IS a Stock Chart?
- 3 Resources for Stock Charts
- 4 How to Read Patterns for Beginners
- 5 Learn More About Reading Stock Charts
How to Read Stock Charts for Beginners
At its most basic level, a stock chart is a visual representation of price and trading volume over time. Think back to your junior high math class when you plotted points on a graph. You had the x-axis and y-axis…
On a stock chart, the x-axis represents time and runs left to right. The y-axis runs vertically represents price and volume.
Besides price and volume, stock charts can include technical indicators. Some examples are moving averages, Fibonacci retracements, and Ichimoku cloud. There are dozens of others. I’ll include the moving average and relative strength index later in this post.
Why Use Stock Charts?
I suppose you could ask a drummer why she uses drumsticks, right? A price and volume stock chart is the most basic technical analysis of a stock. If you want to trade you need to study charts. That means you need to be able to read a stock chart.
Basic reasons for using stock charts:
- Understand the stock’s price and volume history. I consider myself a glorified history teacher. Much of the information you need to trade stocks the way I teach is on the chart. Studying historical charts can give you insight into possible future price action.
- Clearly see when a stock is primed for a big move — like a supernova, or an overnight gap up on a first green day.
- Get an idea of support and resistance levels.
- Learn to recognize patterns. Patterns are a cornerstone of the strategies I teach in the Trading Challenge.
What IS a Stock Chart?
Price & Volume
The y-axis on a stock chart represents price and volume. Price is typically shown as a line graph, a bar graph, or with candlesticks. Some charting software allows histogram and area graphing as well. On nearly all stock charts, volume traded is represented as a histogram (a bar graph) below the price graph.
Let’s look at some examples of different chart styles. I’ll explain my preferred style later in this post. I’ll also give you some links to sites you might consider using if you don’t have StocksToTrade yet.
Here’s an example of a stock recently in play. Outlook Therapeutics Inc (NASDAQ: OTLK) had a nice spike on May 17. Check it out…
OTLK chart: 5-min candle
When you look at a stock chart, the x-axis (left to right) represents time. The period depends on what you want to see. For example, you can look at an intraday chart from the moment the market opens until it closes. Or, you can change the period and look at a 1-year chart to see longer-term trends in the stock’s price and volume.
The chart above is one day, including pre-market and after-hours trading. The far right of the chart is pre-market on the next day (in this example, May 20.) Each candle on the chart represents five minutes. All charting software allows you to change the time frame of candles. The same is true of open-high-low-close (OHLC) bars or line graphs.
Here’s another example: The chart below is a bar chart from another stock recently in play, Kraig Biocraft Labs (OTCQB: KBLB). This chart represents one year. Each bar is one day of trading.
KBLB chart: 1-day bars (chart courtesy of BigCharts: bigcharts.marketwatch.com)
All charting software or apps allow you to choose from several time periods: several hours, single day, multiday, weeks, months, or years.
Other common chart types include line graph and Heikin-Ashi candles. My favorite — and the style I use — is the candlestick chart.
To get an idea of the different chart styles, let’s look at KBLB again. Each chart below is over 10-days with a 15-minute period. Aside from changing the chart style — and the background on the line chart — this is the exact same chart.
KBLB charts: Heikin-Ashi, line, bar, and candlestick…
KBLB chart: 10-days, 15-min period, Heikin-Ashi candles
KBLB chart: 10-days, 15-min period, line graph
KBLB chart: 10-days, 15-min period, OHLC bars
KBLB chart: 10-days, 15-min period, candlesticks
The chart style you use depends on how you trade and what you want to see. The information in each chart is based on the same data. But the output gives slightly different clues about possible future price action.
Each chart style has advantages and disadvantages. For example, the Heikin-Ashi candle gives a clear picture of reversals and trends. This is because it uses a 2-period averaging formula. But the averaging formula obscures certain price action — which can be a disadvantage.
I use the standard candlestick chart when I trade, and it’s what I recommend for students. First, learn your strategy and how to identify patterns. Then you can start playing with other chart styles.
Moving Average Lines
Moving average (MA) lines are a graphical representation of past price history. For example, a 200-day simple moving average (SMA) plots a line on the chart using the average closing price for the past 200 days. The period you choose for the chart determines the period used for the moving average lines.
For more information on moving averages, check out my post Moving Average Guide: How to Use This Great Technical Indicator. It explains in much greater detail the different types of moving averages. It gives you the formula to calculate moving averages and use them as a gauge of support and resistance.
I don’t often use technical indicators when I trade. But the Moving Average Guide shows you some moving average chart setups you can use for trading. For example, some traders use two moving averages — a slow and a fast. They watch for the lines to cross and this signals them to buy or sell.
Relative Strength Line
The relative strength index (RSI) measures losses against gains. Traders use it to determine whether a stock is overbought or oversold. Like moving averages, most stock charting software allows you to plot an RSI line. It’s usually displayed in a separate graph below the volume histogram.
For more in-depth information on relative strength, read my post Why the Relative Strength Index Matters. It shows you how to calculate the RSI and use it to determine overbought or oversold conditions. It also explains how some traders use RSI to determine entry and exit points.
A Note About Technical Indicators
There are literally dozens of technical indicators available to you for stock analysis. Some traders love to use them. I prefer to use basic support and resistance and follow recognizable patterns.
It’s important for you to get familiar with different technical indicators. But don’t miss the proverbial forest for the trees. If you find a technical indicator useful or interesting, by all means — learn how to use it when you trade.
But beware of analysis paralysis! Sometimes technical indicators are in direct conflict with each other.
Resources for Stock Charts
There are lots of stock screening and charting options available out there, but my favorite, by a landslide, is StocksToTrade. Designed by traders, for traders, it has everything I need, all in one place. I even got to help design it!
The charts are incredible. You can choose time constraints between one minute and month-to-month, so you can view price action over any timeframe you desire. The charts come with lots of economic indicators, and you can view multiple charts simultaneously.
You can also use StocksToTrade to create watchlists, scan for info, monitor tickers, and much more — and it’s all extremely accessible from your dashboard.
They’re running a 14-day trial for just $7. That’s less than the cost of a fast-food meal to try it for two weeks. I highly recommend you check it out.
How to Read Patterns for Beginners
When I got into penny stocks, I spent a few weeks simply watching stocks trade. I was fascinated when I discovered there were certain patterns. Not only were they recognizable, but during the dotcom bubble, they were predictable.
Now, more than 20 years later, I still see many of the same patterns. I hope this excites you. As sectors come into play, so the patterns appear. When a sector goes out of favor, the patterns play out less often.
I teach my students to recognize the patterns I’ve traded successfully over the years. My favorite pattern changes from time to time. But I have students trading most, if not all, of the patterns I teach.
I’ve written several posts about patterns. Here’s what you should do to become familiar with patterns. First, check out the following posts on the blog:
- Penny Stock Chart Patterns (Note: this is Chapter 7 from my Penny Stocking 101 guide. Chapters 8 and 9 are also all about patterns. Do yourself a favor and start at the beginning.)
- Do You Recognize This Great Stock Pattern?
- 7 Candlestick Patterns You Can Take Advantage of While Day Trading
- Are You Taking Advantage of These 3 Bull Flag Patterns?
- Breakout Trading Guide: My Favorite Key Setups
Those posts have a ton of information about support, resistance, breakouts, and more. Once you read and re-read those posts, apply for the Trading Challenge. Get ready to work hard. It’s an incredible ride.
One final thing regarding your education…
… you need to learn as much as possible to become a smart, self-sufficient trader. Over the years I’ve read and studied hundreds of books about stock trading and the markets. Here are three books you should definitely add to your library if you’re serious:
- “Technical Analysis of Stock Trends” by Robert D. Edwards, John Magee, and W.H.C. Bassetti. Now in its 11th edition, this is the classic book on charts and patterns.
- “Japanese Candlestick Charting Techniques” by Steve Nison. Candlestick charts are my favorite. This is the classic book by the person who brought candlestick charts to the West back in the 80s. It will give you insight into what other traders think when they read candlestick charts. Trading is a battlefield. Know your enemy.
- “Reminiscences of a Stock Operator” by Edwin LeFèvre is the book mentioned at the beginning of the post. If you’re serious about trading, read this book. The lessons still apply today, nearly a century after it was first published. While terminology changes, human nature doesn’t.
Learn More About Reading Stock Charts
I’ve mentioned Trading Challenge a few times in this post. I urge you to apply today.
Roughly 90% of traders fail. Why? Lack of preparation. So arm yourself with knowledge! Take advantage of live learning through webinars and the Challenge chat room. Set a learning schedule that fits your life and get to work.
Reading stock charts is only the beginning. Keep in mind, I’m not looking for more students just to have more students. I’m looking for students who are willing to put in the time and effort. If that’s not you, don’t bother.
If it is you… get on it. Don’t put off until tomorrow what you can do today.