Introduction to Technical Analysis

Technical Analysis is the systematic study of historical market data—primarily price and volume—to predict future price movements. Unlike fundamental analysis, it does not consider a company’s earnings, balance sheet or macro‑economic variables.

The approach assumes that all relevant information is already reflected in the market price, making price itself the most reliable source of insight. This viewpoint aligns with SEBI’s emphasis on market‑based evidence for investment recommendations.

For the NISM exam, you will be asked to differentiate technical analysis from fundamental analysis, list its assumptions, and identify the tools used to interpret price charts.

• Key term: Price action – the movement of a security’s price over time.
• Key term: Volume – the number of shares traded during a specific period.

The first assumption is the Market Discounts Everything hypothesis. All known information—economic data, corporate news, investor sentiment—is already incorporated in the current price.

The second assumption is that Prices Move in Trends. Once a trend is established, it is more likely to continue than to reverse, allowing analysts to ride the trend until clear signs of a change appear.

The third assumption is the History Repeats Itself principle. Human behavior tends to be consistent, so recurring chart patterns and indicator signals can be expected to produce similar outcomes.

Exam‑wise, you may encounter a statement‑based question asking which of the above is NOT an assumption. Remember that “prices are random” is a false statement in this context.

Line Chart connects closing prices over a selected period, giving a clear view of overall price direction. It is useful for quick trend spotting but hides intraday volatility.

Bar Chart (or OHLC chart) displays Open, High, Low and Close for each period, providing a richer picture of price range and momentum.

Candlestick Chart is similar to the bar chart but uses colour‑coded bodies to indicate bullish or bearish sessions. Candlesticks are popular in Indian markets because patterns such as “Doji” and “Engulfing” are exam favourites.

Point & Figure (P&F) Chart ignores time and plots price movements only when a predefined price change occurs. It is useful for identifying support and resistance without the noise of time‑based charts.

Moving Averages (MA) smooth price data by creating a constantly updated average price. Simple Moving Average (SMA) and Exponential Moving Average (EMA) are the two most frequently used variants in the NISM syllabus.

Relative Strength Index (RSI) measures the speed and change of price movements on a scale of 0‑100. Values above 70 suggest over‑bought conditions, while values below 30 indicate over‑sold conditions.

Moving Average Convergence Divergence (MACD) combines two EMAs to generate a momentum oscillator. The MACD line crossing the signal line is a classic buy/sell trigger.

Bollinger Bands consist of an SMA surrounded by two standard‑deviation lines. When price touches the upper band, it may be over‑extended; touching the lower band may signal a reversal.

Support is a price level where buying pressure is strong enough to halt a decline. It often coincides with previous lows or psychological round numbers (e.g., ₹1,000).

Resistance is the opposite – a price ceiling where selling pressure overcomes buying, typically aligning with prior highs or round figures.

In practice, analysts draw horizontal lines on charts to mark these zones. When price breaks through support or resistance with high volume, it may signal a new trend, a point frequently tested in scenario‑based exam questions.

An uptrend is characterized by higher highs and higher lows. Analysts often use a 20‑day SMA to confirm the direction – price staying above the SMA supports an uptrend.

A downtrend shows lower highs and lower lows, with price typically below a longer‑term SMA such as the 50‑day SMA.

A sideways or ranging market occurs when price oscillates between well‑defined support and resistance without clear higher highs or lower lows. In such cases, range‑bound strategies like buying at support and selling at resistance become relevant.

Head & Shoulders is a reversal pattern that signals a shift from an uptrend to a downtrend. The pattern consists of a left shoulder, a higher head, and a right shoulder, with a neckline acting as support.

Double Top and Double Bottom are also reversal patterns. A double top indicates two peaks at similar levels, suggesting a forthcoming decline, while a double bottom shows two troughs hinting at an upcoming rise.

Triangles (Ascending, Descending, Symmetrical) represent continuation patterns where price consolidates before breaking out in the direction of the prior trend.

Flags and Pennants are short‑term continuation patterns that appear after a sharp price movement, resembling a small rectangle or a small symmetrical triangle.

Volume reflects the number of shares traded and validates price moves. A price rise accompanied by high volume is considered stronger than a rise on low volume.

Volume Spikes often precede breakouts from chart patterns. In the exam, you may be asked to identify the most reliable confirmation for a breakout – high volume is the correct answer.

The On‑Balance Volume (OBV) indicator accumulates volume based on price direction, helping to spot divergence between price and volume, which can warn of a potential reversal.

Technical analysis is often criticised for being subjective. Different analysts may draw different trend lines or interpret patterns differently.

Most technical tools are lagging indicators, meaning they confirm a move after it has begun, which can reduce profitability if not combined with risk management.

Over‑fitting – tailoring a model to past data – can produce impressive back‑tested results that fail in live markets. SEBI’s guidelines advise analysts to disclose the assumptions behind any technical model used in a recommendation.

Despite these drawbacks, the NISM syllabus expects you to know both the utility and the caveats of technical analysis, especially when recommending strategies to retail clients.