Averaging

What is Averaging?

We used to 'average' in our mathematics lessons when we were small. Remember? Well this is basically the same thing. You take two prices, add them together and divide by two (since we took only two prices). That's what averaging is.

What's the big deal?

Well, averaging may seem easy. And yes, it is. But it's implications are what that counts. As we may understand averaging is used to bring the 'average cost' of a stock down. This is called 'Averaging Down'. (there's nothing called averaging up OK?). Say we buy 100 shares at $10, the total cost would be $1000 right? So the average cost per share would be again $10 (1000/100). Say now the prices of this particular stock is going down. Alas! So we see this as an opportunity to bring our average cost down. This is how it's done. Say the price goes down to $8, we buy another 100 shares at a total cost of $800. So we add up both the investments; that would total up to $1800 ($1000+$800).  So if we calculate the average cost per share it would come to $9 (1800/200). Seems pretty good huh? Well that depends. Read further and find out why.

Good Move or BAD Move?

This is a very controversial part of the investment process. In a quick glance, reducing the average cost of a share seems the wisest thing to do. But most experts absolutely PROHIBIT to do this. Of course there are reasonable reasons. The main argument against averaging down is that you're continuously investing or blocking money on a failing stock. The more the price goes down the longer it will take to recover, so actually you'd be stuck with a bunch of loss shares till it bounces back. Positive side is that when the stock price starts to climb again, averaged down stock would have a lower break-even point. That is a lower point from where anything above that point is profits. That has a magnifying effect on profits. And on the downside, if the prices continue to dip further, that too tends to have a magnifying effect of losses. 

Should you do it?

This is not really a question I could answer for you. You should be the overlord of your investment portfolio. However for Investors, averaging down doesn't make any sense at all. Investors look at the long term and a sudden dip in the price wouldn't affect their decisions. For a trader, who looks at the short term, this could be vital. At the end of the day it all comes down to risk management. The higher the rick higher the gain. But that doesn't mean you should burn your fingers in hot water either.

Technical Analysis (Part 01)

What is Technical Analysis?

Generally stock market analysis falls into two broad categories. i.e. Fundamental Analysis and Technical Analysis. Now we are going to take a look at the Technical Analysis of the stock market. Very simply put, Technical analysis can be identified as the process of analyzing the price movements and volume movements of a stock and predicting the future movements based on the results. This maybe a kind of too 'modest'. ;)

So let us look in depth.  

Technical analysts use charts, graphs, lines, regressions, trade patters etc. to help their Technical analysis. It is fair to say that all of these are done using the historic and real-time data of prices and volumes of a particular stock, and thus justifying the simplified explanation I provided above. Technical analysis includes the study of many tools like 'Relative Strength Index', 'MACD', 'Average Directional Index', 'Commodity Channel Index' and many more.

Before jumping into the advanced areas of Technical analysis, there are a few concepts a technical analyst must know.

Important Concepts associated with Technical Analysis

• Resistance - a level of price that stops/prevents the price from moving beyond that point. It may act as a 'Price Ceiling'. This is not permanent however. 
• Support - a level of price that stops/prevents the price from moving/dropping below that point. This acts as a 'Price Floor'. This too is not permanent. 

(Both Resistance and Support could be broken and when that happens a significant price increase or decrease can be witnessed.)

• Trend Line - a line drawn connecting two price points. 

• Channel - a pair of parallel trend lines
• Moving average - a line depicting the average price movement of a stock over a period of time. Also known as MACD.

• Relative Strength Index (RSI) - used to chart or map the relative strength and weakness of a stock.
• Bollinger Bands - measures the highness or lowness of the price in relation to previous price trends.

Those are still a few concepts that are used in Technical analysis. Seems extremely difficult? Well, Yes and No. If you study each tool carefully and gain experience by using them first hand, it becomes as easy as everyday trading. The part 01 of the Technical analysis article will stop fro now. The second part will be coming soon with more about the Technical Analysis to win the stock market battle.