Reading a chart is not a very difficult art. Today we will try to understand how to read the charts how to make assumptions based on the same. First thing that one must understand that it is not a rocket science. One has to be creative, attentive and a sort of meditative. Albert Einstein once said that "it is not that I am smart but I stay with the questions much longer".
For reading the chart one must ask questions to the chart and observe the answers by reading between the lines and understanding the patterns. Everything has patterns. Even time is not linear even as per Vedas the time is cyclical. That's why we have God (Generator, Operator and Destroyer). If time is cyclical the cycle is a pattern. We say that history repeats itself.
Stock market legend Jesse Livermore once said "All through time, people have basically acted and reacted the same way in the market as a result of greed, fear, ignorance, and hope. That is why the numerical formations and patterns recur on a constant basis. Patterns repeat because human nature hasn’t changed for thousands of years” If you want to know more about Jesse Live more you can watch the movies like The American Clock, The day the bubble burst or The bucket Boy.
Thus by asking the question to the chart and by observing the chart and searching fo the answers by noticing the patterns, historic layouts, supports, resistances and applying certain amount of basic maths and common sense one can come to know about the risk is to reward ratio in buying a stock or a derivative.
'Breakout' or Breakout level is what we are searching for. The coveted breakout may happen or it may not even after calculations and chart study and fundamental analysis. So if break out fails you must have a stop loss to protect your capital. If breakout actually happens you let your money work and reap the benefit. After having understood this basic concept let us try to analyse the chart of IDBI Bank for the purpose of education. I will mention below my observations of the same. The purpose of this analysis is educational and one must not treat it as a buy or sell call.
The First thing that I observe here is that the stock is moving in a particular parallel channel. Many of the stocks do move in channels. There are different kind of channels and this one is a parallel channel. In a parallel channel channel top works as a resistance, Channel bottom works as a support and mid channel might work as a support if stock price is above it. The same mid channel will work as a resistance if the stock price is below it. Thus we get a Long term target 120 which can be the channel top. We get a long term support 75 which can be the channel bottom. The point to note is that 75 level has been supporting this stock since March 24. The stock has bounced from there many a times as indicated in the chart. In this particular case mid channel will work like a resistance. The real breakout might happen after we get a closing above it at the levels of 91.6.
CMP of the stock is 85.12 but before we reach 91.6. There is a scope of trend line breakout if the stock closes above 87.6. Thus 91.6 is my first target. The closing above 91.6 can also be treated as a compounding point for stock's further journey. You can also think of takin partial entries at 87.6 and 91.6. If I am a Short term trader, I can even trade the stock for the target of 91.6. After closing above 91.6 further targets can be 96, 99, 101, 105, 107 and finally 120. Partial profit booking can also be done at these various levels. Trailing stop loss can also be increased step by step as the stock moves northwards.
You can never be overconfident in your analysis. Stock market is a graveyard of lot of over confident people. The design of stock market is such that it transfers money from the impatient to the patient. Thus you need a stop loss in case your break out fails. In this particular case I can keep my stop loss at either at a closing below 83 as there are Mother and Father lines (50 and 200 days EMA) at this point. To know more about stuff like parallel channel, Mother Father and Small child theory and much more interesting ways to make your money work through Techno-Funda investing. You can read my book The Happy Candles Way to wealth creation. The book is available on Amazon in (Paperback) and Kindle version (E-Version). The book has potential to become your handbook or an investment guide.
If I am little bit more risk taking person I will keep the stop loss at closing below 75 in this case as 75 has historically provided a great support to the stock. Additionally now it has also become more powerful by becoming a channel bottom support (Importance of channel bottom support is discussed earlier in the article). A person who looks at the risk reward ratio can see that down side risk is Rs.2 or Rs.10 considering my risk taking ability and upside potential is around Rs 35. If you consider 120 as a channel top. So incase I keep my stop loss at 75 and my long term target at 120 my risk reward ratio can be 1:3.5. In case if I keep my target at 99 and my stop loss at 83 my risk reward ratio is 1:7 or so. So the risk reward ratio is a dynamic number which will keep changing depending on your target and risk taking ability. You need to calculate it personally. There can not be a universal risk reward ratio. As different people will keep different targets and different stop losses. Once you have determined your target and stop loss adhere to it strictly. In case of stop loss you have to be particularly strict. In case of target you can let the stock fly even higher than your target but you have to adhere to a trailing stop loss strictly. My book about which I have a description earlier talks at depth about stop loss and trailing stop loss.
I sincerely hope that this write-up will help you in reading the charts, understanding the importance of charts and becoming a better investor.
Disclaimer: The above information is provided for educational purpose, analysis and paper trading only. Please don't treat this as a buy or sell recommendation for the stock. We do not guarantee any success in highly volatile market or otherwise. Stock market investment is subject to market risks which include global and regional risks. We will not be responsible for any Profit or loss that may occur due to any financial decision taken based on any data provided in this message.
