Ch1. Technical Analysis 101 — Reading the Market and Dow Theory

Overview: What Does a Chart Tell You?

Two people look at the same chart. One says “time to buy,” the other says “it’s about to fall.” The difference isn’t the data — it’s whether they know the grammar of reading a chart.

Analyzing a company’s earnings and financials is fundamental analysis. Drawing trading decisions from the movement of price and volume themselves is technical analysis.

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1. The Three Premises of Technical Analysis

Technical analysis rests on three assumptions.

Premise	Meaning
The market discounts everything	Earnings, rates, sentiment — all information is already in the price
Prices move in trends	Once established, a direction tends to persist
History repeats itself	Investor psychology recurs, so patterns reappear

In other words, instead of “why is it rising,” you focus on “what flow is it in right now.” Not the interpretation of news, but the price movement that results from it.

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2. Fundamental vs. Technical Analysis

Aspect	Fundamental	Technical
Object	Earnings, financials, industry	Price, volume, charts
Core question	”What to buy"	"When to buy/sell”
Time horizon	Mid-to-long term	Short-to-mid term
Weakness	Poor at timing	Risk of ignoring fundamentals

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3. Dow Theory — The Root of All Chart Analysis

Dow Theory, formulated by Charles Dow in the late 19th century, is the starting point of modern technical analysis. Its core idea: the market moves as three overlapping trends.

• Primary trend: the major direction lasting a year or more (bull/bear market)
• Secondary trend: corrections of weeks to months against the primary
• Minor trend: ripples of a few days, closer to noise

The Six Tenets (summary)

1. The averages discount everything
2. The market has three trends
3. The primary trend has three phases (accumulation → public participation → distribution)
4. The averages must confirm each other
5. Volume confirms the trend
6. A trend persists until a clear reversal signal appears

Tenet 6 is key — it’s where the saying “the trend is your friend” comes from.

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4. The Three Directions of Trend

A trend is ultimately defined by how highs and lows connect.

Trend	High/low pattern	Response
Uptrend	Higher highs & higher lows (HH·HL)	Buy the pullback
Downtrend	Lower highs & lower lows (LH·LL)	Sell into bounces
Sideways (range)	Highs and lows within a band	Buy bottom, sell top

Uptrend:   /\    /\
          /  \/    \/   ← lows (HL) keep rising
        /

The simplest signal that an uptrend has broken is the previous low (HL) being taken out. Knowing just this gives you a clear stop-loss reference.

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5. The Right Mindset Toward Technical Analysis

• Don’t trust a single indicator — judge by a combination of signals
• Plan your exit (stop-loss/take-profit) before entering
• Use only the indicators that fit your timeframe (swing, day, long-term)

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Key Takeaways

1. Technical analysis assumes “the market discounts everything, and prices move in trends.”
2. Fundamental (what) and technical (when) analysis are complements.
3. Dow Theory’s core: a trend persists until a reversal signal appears.
4. A trend is defined by the flow of highs and lows; breaking the prior low is the simplest reversal signal.
5. A chart is a probability and risk-management tool, not a crystal ball.

Next lesson: We dissect the candle — the smallest unit of a chart. From the meaning of bullish/bearish candles to patterns like the hammer, doji, and engulfing that drive trades.