What do stock charts tell us?
Stock charts may not tell you which stocks to buy, but they can help you decide whether it's a good time to buy or sell those stocks.
- Planning tool — When you know how to read a stock chart, you'll see things you otherwise wouldn't know about how other buyers and sellers have been trading that stock recently. This can be especially useful if you are planning to buy or sell that stock in the near future.
- Decide whether it's a good time to get in or not — You can also chart the overall market using a market index instead of an individual stock. This can help you decide whether now is a good time to invest (or invest more) in a market index ETF or mutual fund. And it can give you something to talk about at parties.
- Anticipate the impact of the individual investor — As an individual investor, it is very important to remember that institutional buyers — including mutual funds, pension funds, and other big pools of money — drive the behavior of stock prices throughout the day. A single big player can buy and sell a stock in such a large quantity that the pressure of its order alone, whether to buy or sell, can move the price. An individual investor who wants to buy or sell the same stock that day has to go along for the ride.
- Avoid buying at a bad time — You can use stock charts to try to avoid buying or selling at the worst time. (No guarantees, though — this isn't an exact science!)
There are a few different kinds of stock charts. We'll talk about two of the most common:
Bar charts and Candlestick charts.
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How to read bar charts
First, look at the green and red vertical bars that seem to be wandering drunkenly across the main part of the graph. The top and bottom of each vertical bar represent the highest and lowest prices of the stock, shown on the right side of the graph, over that time interval.
You can also usually choose to have the graph display the percentage changes in price, instead of the actual prices, if that's what you want to see.
In this case, our time interval is 15 minutes. We could have chosen a longer or shorter interval, from one minute to an entire year; most charting sources provide flexibility and features that allow you to control this.
If the interval is one day, the vertical bars show the stock's price range for the entire trading day. Weekly charts help you see longer-term trends, while intra-day charts help you spot specific buy and sell signals.
Using daily and weekly charts together helps you distinguish between normal price changes and a true shift in trend. Intra-day (shortest interval) charts are helpful when it comes to deciding the best time to buy or to sell.
The length of the bar shows how much the stock moved over that period. A short bar indicates the price didn't move much. A tall bar means the price was rather volatile.
The bar is red if the price was lower at the end of the interval than at the beginning. Green says the stock price went up over that period. Other sources use other colors (pink and purple are nice), but it's the same idea. See how much information you can glean from one vertical bar!
Horizontal dashes (“twigs”)
Each bar has two little “twigs” (horizontal dashes) poking out, one to the left and one to the right. Some are near the top of the bar, some near the bottom, many are in between — there's no discernable pattern.
Opening and closing prices for the time interval
The two dashes indicate the opening (left dash) and closing (right dash) prices for that interval (15 minutes, an hour, a day, whatever you choose). If the chart is updated in real-time, the bar for the current interval might have just one dash, showing where the price is right now.
Applied dates and times
Dates and times are shown across the bottom. Here, our dates range from 8/15 to 8/17. Let's look at the tall red bar at the beginning of 8/17. It's the tallest bar on the chart, so we know the stock price moved a lot during the first 15 minutes of trading on 8/17.
Price trend indication
The bar is red, which means the price at the end of the 15-minute interval was lower than the price at the beginning. Notice that the beginning and ending prices for this interval, represented by the left and right dashes, are very close together. So even though the price moved a lot over this 15-minute period, it ended up just a little bit lower than where it started (so the bar is red).
The trading volume
The vertical bars across the bottom of the chart show the number of shares traded (the “trading volume”) during each time interval. That first 15-minute interval on 8/17 was a busy one. There was a high volume of shares traded during that 15 minutes compared to most other intervals. These are also color-coded based on whether the stock was up or down for that interval.
Spikes and trendlines
If you see a “spike” in the volume of shares traded, does that correspond with some news about the company or its industry? Give yourself extra credit points if you noticed that the first and last intervals of most days are the busiest (have the highest volume). That is a typical trading pattern for stocks that are held by big institutional investors (mutual funds, pension funds, etc.).
The purple line that resembles an outline of rolling hills is a “trendline.” In this case, it is the moving average of the stock price over the past 30 days. Each day's average is computed from the previous 30 days of closing prices (you can choose other periods). What does this tell you? You can immediately see if the stock has been on an upswing recently or if it's generally headed downward or when a trend has shifted. There are dozens of different trendlines, but we'll save them for another time.
Charts can also help you decide whether there is “support” for a stock at a certain price level (meaning the price is unlikely to go lower than that in the short term) or “resistance” (implying the price is unlikely to go higher in the short term). This is rather subjective, so most charting tools allow you to draw your own support and resistance lines.
We drew ours in blue. On 8/15, the horizontal “support” line under the mid-afternoon trading bars suggests the price probably wasn't going to go lower than that level. If you had been planning to buy this stock that day, the chart was indicating that it might be a good time to make your move.
For comparison, we'll take a quick look at a candlestick chart:
The rectangular (hollow or filled) portion of the candlestick is called “the body” (or the “real body”). The lines sticking out above and below the body are called “shadows” (or sometimes “wicks” and “tails”). These show the range of the highest and lowest prices during that interval.
A hollow candlestick
If the stock ended the interval higher than its beginning (opening) price, the candlestick is hollow. The bottom of the body is the opening price, and the top is the closing price.
A filled candlestick
If the stock closed lower than its opening price for that interval, the candlestick is filled. The top of the body then represents the opening price and the bottom of the body denotes the closing price.
In this chart, green and red show whether the stock started the interval trading higher or lower than the last trade of the previous interval.
That's an action-packed story, all in one chart.
Practice reading charts with TD Ameritrade
The best way to become an expert at anything is to practice. Now that you know the basics of reading stock market charts, try to practice reading the charts before you start investing.
A company that provides a great way to get started without trading your own money first is TD Ameritrade‘s thinkorswim platform. Its thinkorswim's paperMoney gives you trading tools and resources. You can practice reading stock graphs and even get insight and information on complicated strategies like futures, equities, and forex trades.
When you sign up for a paperMoney virtual account, you get a virtual margin account and a virtual IRA, that are each funded with $100,000. This lets you practice trading in different accounts and understand the difference between a taxable account and a tax-deferred account. Read more about paper trading here.
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Bottom line: Knowing to read a stock chart Is a must
Stock charts contain a lot of information and can tell many stories if you know how to read them. You could say that understanding those stories isn't about reading between the lines; it's about reading the lines themselves.
Once you have mastered reading charts, you can start letting your money work for you and set up a brokerage account or start investing with a robo advisor.
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