Technical Analysis and Chart Interpretations. Ponsi Ed

Immersion

      What happened next could only be described as total immersion. We were like cult members. Our team of four would work from 8 a.m. until the closing bell. After the close, we'd look at every single chart in the S&P 500.

      Then we'd go to dinner, or to the bar, or just hang around the office while the cleaning crew worked around us, and the technical analysis conversation would continue. Any remaining time was spent reading additional books on technical analysis and growth stocks as assigned by our mentor.

      While I loved learning about technical analysis, I wasn't fond of being a broker. At one time I'd believed that brokers traded and managed money for their clients. This is only somewhat true; eventually, I learned that being a broker has more to do with selling than with trading.

      The final straw occurred when my employer asked me to obtain a license to sell life insurance. There is nothing wrong with selling insurance to people who need it; I just didn't want to be the person who sold it to them. Instead, I wanted to use everything I'd learned about technical analysis to become a full-time professional trader. So, I quit.

      The Next Step

      For a long time, I'd been sending my trading track record to anyone I could find who hired traders. I'd scour the Sunday New York Times and collect e-mail addresses, and then bombard them with my trading record. I had a solid record, mainly thanks to the very forgiving bull market environment of the 1990s.

      After months of this, with no indication that anyone noticed or cared, the phone finally rang – would I like to interview for a trading job on Wall Street?

      This time, I was interviewed by just one person – and he seemed like a maniac. He stomped around his spacious Wall Street office, alternately mumbling and shouting. His expensive suit was wrinkled and uneven, and he needed a shave. He looked as if he'd been out all night.

      Suddenly, I wanted my old job back, a good paying job from which I'd walked away. What had I gotten myself into?

      I didn't know it at the time, but this man was a well-known character on Wall Street. He ran several investment firms, one of which employed over 400 traders. When I told him I was willing to travel 100 miles by train to get to work every morning and another 100 miles to get home every night, he hired me on the spot.

      Once again, it was a case of total immersion. I'd catch a train before dawn, always clutching a book and a copy of Investor's Business Daily. Eventually, one of those books would be Confessions of a Street Addict by legendary hedge fund manager Jim Cramer. Years later, I'd work with Jim and even merit a brief mention in one of his books.

      I saw the same faces every morning on the train. Every day, a young man and an older man would board the train together, and I'd overhear them discussing technical analysis. The older gent was an experienced arbitrage trader, and the kid was a college athlete who was just getting started in the business. Every day, we'd discuss indicators and other technical concepts. Years later, we would all work together at a midtown Manhattan trading firm.

      Hiding from the Boss

      My first trading job could only be described as Darwinian – it was the survival of the fittest. The firm's philosophy of cutting losses quickly apparently translated to the company's attitude toward its traders. Nearly every day, another desk would be vacant, its former occupant never to return.

      The company had a lengthy set of rules, particularly regarding risk management. I had trouble making money at first, as I struggled to adjust my somewhat wild trading style to fit within the company's parameters. Every day brought with it a new defeat followed by the long train ride home.

      Meanwhile, the new hires I'd started with were disappearing one by one. Why had I left my secure job and gotten involved in this mess? I lost money, lost sleep, and lost my appetite. I thought I'd lose my mind.

      I really thought I'd be fired, but I kept showing up. In the hallways at work, I avoided at all costs the man who hired me. I figured he'd simply forgotten to fire me, and I didn't want to jog his memory.

      A few months later, after I'd gotten my act together and become profitable, I finally gathered enough nerve to march into the wild man's office. I needed to ask why he hadn't fired me while he was letting the other new hires go.

      What he said startled me: “We didn't fire you because we like the way you lose.”

      He explained that while losing, I'd demonstrated “good defense.” I wasn't profitable, but I hadn't lost much money, preferring to take a quick loss rather than a “hang on and hope for the best” approach. This meant that having me around wasn't a big expense to the company. My boss reasoned that since I'd already learned the proper way to lose, he might as well let me stick around for a while to see if I could learn how to win.

It All Comes Back to Technical Analysis

      Of course, the entire “good defense” concept was a result of my immersion in technical analysis. All of those hours spent looking at charts had created an internal mechanism that kept me out of trouble. How could I hold on to a stock if I knew its chart was breaking down? The charts had helped me to act objectively on what was actually happening in the market.

      Technical analysis had taken the emotion out of my trading. It helped me to avoid being drawn into a subjective narrative. The reality of the price trumped the inner voice that whispers, “It's a good stock, don't sell it yet, it'll come back.” Once I understood that reality, it was impossible to ignore.

      The game of trading is constantly changing. The recent advent of high-frequency trading has closed certain loopholes that a clever individual trader could use to his or her advantage. However, as one door closes, another one opens. There are always ways to win at this game, and if you want to win badly enough, you will find them.

      This book is designed to give you an advantage. If you can read a chart, you'll know when to get into a trade; even more important, you'll know when it's time to get out. Charts provide a visual history of the price and reveal the strengths and weaknesses of the market participants. Understanding those strengths and weaknesses helps us to anticipate future turning points.

      Maybe the best thing about technical analysis is this: It forces us to confront the realities of the market. Technical analysis allows us to deal with what is actually happening instead of what we believe should be happening. Belief can be a dangerous thing in trading – specifically, the belief that we know what should or will happen in any given situation. It's better to see things as they really are than as we wish to see them, and technical analysis allows us to do just that.

      ABOUT THE AUTHOR

      Ed Ponsi is the managing director of Barchetta Capital Management LLC. An experienced professional trader and money manager, Mr. Ponsi has advised hedge funds, institutional traders, and individuals of all levels of skill and experience. He has made hundreds of appearances on national and international networks such as CNN, CNBC, the BBC, and Bloomberg. A dynamic public speaker, Mr. Ponsi has lectured audiences around the world, in locations such as London, Singapore, and New York City.

      PART I

      THE FOUNDATION OF TECHNICAL ANALYSIS

      CHAPTER 1

      Why Technical Analysis?

      Why would anyone want to learn about technical analysis? If we want to understand how to analyze stocks, shouldn't we concern ourselves with valuation metrics like EBITDA (earnings before interest, taxes, depreciation, and amortization) and price-to-sales ratios? Wouldn't our time be better spent listening to conference calls and digging through balance sheets instead of poring over charts in search of various patterns and formations?

      In truth, there is nothing wrong with doing any of the above. Terms such as price-to-sales ratio and EBITDA fall under the auspices of “fundamental analysis.” Fundamental analysis can be a useful tool for analyzing investment opportunities. Think of technical and fundamental analysis as two different sides of the same coin.

      However, fundamental analysis isn't foolproof. You can learn every nuance of fundamental analysis