Analyzing Technicals and Stop Losses

Chris Haroun
A free video tutorial from Chris Haroun
Award Winning MBA Professor, Venture Capitalist and Author.
4.5 instructor rating • 34 courses • 876,319 students

Lecture description

What is technical analysis and why do hedge funds use technical analysis on helping them to decide when to put on or take off a position? Concepts covered in this section includes: the relative strength index, moving averages, trend lines, ascending triangle formations, short interest, stop losses and much more. 

Learn more from the full course

The Complete Financial Analyst Training & Investing Course

Succeed as a Financial Analyst &Investor by Award Winning MBA Prof who worked @Goldman, in Hedge Funds & Venture Capital

22:31:28 of on-demand video • Updated June 2020

  • 22+ hour complete financial analyst course!
  • #1 Best Selling Investing Course on Udemy!
  • How to pick stocks.
  • Become an expert in Excel for financial analysts (no prior Excel knowledge is required).
  • How to manage a portfolio.
  • How an IPO works.
  • How to build financial models.
  • How to get hired and promoted as a financial analyst.
  • How risk management works.
  • How to use technical analysis.
  • How to value companies.
  • Use and create Excel based templates developed by Chris to help you create financial statements from scratch (meaning income statements, balance sheets, cash flow statements and more).
  • Use and create Excel based templates developed by Chris to help you value companies using several different valuation methodologies, including P/E, P/R and Discounted Cash Flow (DCF).
  • Use and create Excel based templates developed by Chris to help you manage a portfolio.
  • How Monetary Policy works.
  • How Fiscal Policy works.
  • How interest rates are changed and why this is crucial to understand for successful financial analysts.
  • How to pitch long and short ideas to portfolio managers.
  • How to find great venture capital investment ideas.
  • How to come up with mutual fund investment ideas (longs - meaning buys) using an easy to understand top down and bottoms up research process.
  • How to come up with hedge fund investment ideas (longs and shorts) using an easy to understand top down and bottoms up research process.
  • Identify crucial catalysts (timed events) in order to know when the optimal time is to buy or short a stock.
  • Understand how investment banks (the 'Sell Side') can help you be more successful in a hedge fund or mutual fund career.
  • Analyze and understand an income statement (even if you have no experience with income statements).
  • Analyze and understand a balance sheet (even if you have no experience with balance sheets).
  • Analyze and understand a cash flow statement (even if you have no experience with cash flow statements).
  • Understand and use modeling best practices so you can create financial models.
  • Know where to get data in order to build a financial model (in depth understanding of identifying and using/navigating the best free websites and sources to build your financial model)!
  • Create a financial model (projecting the future) for an income statement.
  • Other valuation methodologies, including EV/Sales, EV/EBITDA, P/B, EV/FCF, etc.
  • Create a financial model (projecting the future) for a balance sheet.
  • Create a financial model (projecting the future) for a cash flow statement.
  • Understand valuation best practices so you can create target prices based on your financial models.
  • How to use Discounted Cash Flow (DCF) and how to create the Weighted Average Cost of Capital and Terminal values in order to pick target prices.
  • How to use P/E in order to pick target prices.
  • How to use P/R in order to pick target prices.
  • Come up with a target price based on an average of several different valuation methodologies.
  • Learn about 14 different Financial Analyst jobs and how they overlap and work together (including Investment Banking, Venture Capital, Private Equity, Private Wealth Management etc.).
  • Investment Banking: Understand from a high level perspective what an Investment Bank is as well as what the role/job is of an Investment Banking Financial Analyst, including the pros and cons.
  • Venture Capital: Understand from a high level perspective what a Venture Capital firm is as well as what the role/job is of a Venture Capital Financial Analyst, including the pros and cons.
  • Private Equity: Understand from a high level perspective what a Private Equity firm is as well as what the role/job is of a Private Equity Financial Analyst, including the pros and cons.
  • Private Wealth Management: Understand from a high level perspective what a Private Wealth Management firm is as well as what the role/job is of a Private Wealth Management Financial Analyst, including the pros and cons.
  • Sell Side Research Analyst: Understand from a high level perspective what a Sell Side Research Analyst’s firm is as well as what the role/job is of a Sell Side Research Financial Analyst, including the pros and cons.
  • Sales Trader: Understand from a high level perspective what a Sales Trader’s firm is as well as what the role/job is of a Sales Trader Financial Analyst, including the pros and cons.
  • Buy Side Trader: Understand from a high level perspective what a Buy Side Trader’s firm is as well as what the role/job is of a Buy Side Trader Financial Analyst, including the pros and cons.
  • Mutual Fund: Understand from a high level perspective what a Mutual Fund is as well as what the role/job is of a Mutual Fund Financial Analyst, including the pros and cons.
  • Sell Side Trader: Understand from a high level perspective what a Sell Side Trader’s firm is as well as what the role/job is of a Sell Side Trader Financial Analyst, including the pros and cons.
  • Large Non Finance Company: Understand from a high level perspective what a Large Non Finance Company firm is as well as what the role/job is of a Large Non Finance Company Financial Analyst, including the pros and cons.
  • Equity Capital Markets: Understand from a high level perspective what an Equity Capital Markets’ firm is as well as what the role/job is of a Equity Capital Markets Financial Analyst, including the pros and cons.
  • Hedge Fund: Understand from a high level perspective what a Hedge Fund is as well as what the role/job is of a Hedge Fund Financial Analyst, including the pros and cons.
  • Equity Sales: Understand from a high level perspective what an Equity Sales’ firm is as well as what the role/job is of an Equity Sales Financial Analyst, including the pros and cons.
  • Tech / Artificial Intelligence: Understand from a high level perspective what a Tech / Artificial Intelligence’s firm is as well as what the role/job is of a Tech / Artificial Intelligence Financial Analyst, including the pros and cons.
  • Learn what finance role you are most passionate about pursuing.
English [Auto] Let's talk about technical analysis I put a big warning sign here on purpose because I only want you to focus on technicals after you've analyzed the fundamentals and the valuations and the catalyst which again is a reason for buying or shorting a company it's important. Don't ever start research with technicals please technicals are there for a couple of reasons. Number one it makes you very unemotional about stocks and it basically tells you if a stock breaks a certain technical support level technicals will basically imply that you should get rid of that position because it makes you unemotional. Next up we've got it gives you great risk management. So sometimes if a stock drops 20 percent or more people like to sell it to minimize their losses and everybody's got different risk management metrics that they have to adhere to at their companies they work at. So by the way guess what Fonzie's are from came out my kids helped me out with this kind of fun. The first one is what company. What is it. That's right. Bing. Who the heck uses Bing anyway. All right. Let's work on Microsoft. All right. Next one is from what movie Shrek. That's right. Mike Myers Canadian represents. And this one here OK whatever basically it help you identify entry and exit levels. All right. And that's of course here from shrimp's. Troops Smurfs. And the last reason is so you can live to trade another day. Very important and I know you'll never guess what movie that's from Will that Funt OK. But those that minion. OK yeah. Yup. Of course it's from the movie. See when you have kids you have to go to those movies with them. OK. It's pretty funny. So yeah you live to trade another day another day your company or the hedge fund you work at will be alive in the long run. Right you take a knee and some some hedge funds actually if they have a really bad month. Right are down 5 percent. They'll cut exposure. They can take a knee so that investors don't see when they look at the historical numbers that they were down too much in one month. I know it sounds crazy. All right. So there's so many confusing different terms in technicals are RSI filling the gap shortage just catch your falling knife today. Round numbers whatever overbought liquid. Let's go through these. This is actually a lot of fun. Love the section. All right. So first of all we're going to talk about is the 50 and 200 day moving average. And so when a stock breaks a moving average right and trades through that moving average by more than say 5 percent or so computers start selling OK and there's nothing you can do about it break support. And it's like catching a falling knife. Nobody wants to be there. So watch for when the 50 day moving average. Right. Which is the red line here. Breaks through the yellow line which is the 200 day moving average. Right. And again you got to look at fundamentals valuation and catalysts first before you even look at this stuff. But it can help you in terms of deciding what to do from a risk management perspective with a certain stock ok cool. Next up we have got the ascending triangle right and this is going to sound ridiculous to all you folks that are fundamental investors but I'm creating a menu and I'm covering every topic I think. Analysts care. All right so basically you see the formation there you've got this chart right where the range is getting smaller and smaller and smaller. OK. And then what happens is the stock breaks up through the high end of that ascending triangle channel. Right. And that's a bullish thing. And sometimes computers will then cover shorts and go long. When I say cover short it means get out of the position so you can buy stock and then you're done with it you sell it. Right but the short. Right. It's called covering when you get into it. A lot of times technicals are self-fulfilling they matter because they do right. I know since we're in this we're actually in love right. This is a great one so there's something called filling the gap and there's a lot of people that believe if there's a gap in a chart that that stock has to close that gap before consolidating higher in cash. And so usually what causes a gap like that is when a company releases earnings after hours from the market closed. So say Company X. Right. Say it's this chart here. Company X released earnings after the market was close winda and earnings were amazing. And so the stock went up huge as the first the first trade the next morning was going to be at that higher level. And so there's a gap and there's many people I know it's just crazy that believe that a stock will not resume higher until that gap is filled. OK. And look for examples in a lot of stocks you analyze as well. You'll see it actually actually works quite a bit quite a bit. All right. Next up we have got the RSI the relative strength index and all this means is if everybody is buying a stock you shouldn't and if everybody is selling your stock you should buy it at the bottom there there's the RSI calculation right. And it's basically just calculus right. The rise of the round or derivatives or whatever it is. Right and so whenever the RSI see the line there hits 80 or so it's over but two people own stock in the stock is white the white line up above. And whenever the RSI hits around 20 or so that means two if you will sell the stock. Right and so there's no incremental sellers you want to be a contrarian if you want to make money. So this can help you out as well a lot. But again focus on fundamentals catalysts and valuation first call. So the red line means overbought the green line means oversold. There is when you want to sell a stock you want to buy it. There is you want to sell it or short it. Same thing there is where you want to do the same. So that is the RSI. The relative strength index. All right stop losses. What does that mean. Well it means when you decide to get out of a stock right and say stock goes the opposite way that you expected. Well you have to draw a line in the sand and decide when to get out of that position when to admit that you're wrong. Right. It's cool. You're really running a lot right. I was so be unemotional about stocks right. A stop loss. Basically you can say OK if the stock breaks 10 bucks no matter what I'm going to cut my position half or sell it. That sort of thing. It I always want you to think in terms of the risk reward. What's the upside potential on this stock. What's the downside. And the if it's a by idea or a long idea the upside potential should be bigger than the downside potential. And with the upside potential it's all based on coming up with the target price. By creating models. Right. And in doing valuation Alsace which we'll do later in the course do a lot of that. So that's the upside of higher price base in your mouth. So what's the downside. Well a lot of time is based on technicals. Right. If it breaks fits into her day moving average. That's my downside. Right. That sort of thing or there's a good support level here. So the stock market now much more than that. Right. And if it does break that covenant. Right. You're unemotional you're unemotional anyway. Right. There's a line you're going to get. OK and stop losses. Also you know help you to cut your losses and move on. Right. It's very tough especially if you're stubborn. Right. And that's why a lot of the best investors are unemotional. Right. They're like oh well whenever I make money I lost money and there is a guy I worked for years ago and I remember the market was crashing one day and I went as often as I do to see what's happened in the market. Right. And it was in August actually is August 2007. Right. And that's when big big technology trading companies like Renaissance Technologies when our unwinding their positions the computers we're selling everything right. It just happened whenever it's hard to explain. And I remember I went in his office and we were getting killed. And I said do you see what's happened the markets is awful. And this was August and it was like Chris I found this Christmas paper on sale. And so I'm I'm wrapping my kids Christmas presents early. So I mean he's he's an incredible investor but just unemotional when it comes to stock. True story. All right. I also want to ask yourself this If a new piece of information ever comes up right regarding a stock that you own or are short I want to ask yourself this question if I knew about this developments way way back when I put on the position. Right when about the stock where I still be there when I still bought it. Right. If the answer is No then cut it cut it and move on to something else. I hope you understand. Let me repeat that again a different way. So let's say you buy stock. Right. So you buy Coca-Cola and then a year or two later Coca-Cola tries to buy Pepsi which is ridiculous. Never happen. Right. Anti-trust. Let me go through it just wouldn't you. So if Coke tried to buy Pepsi. Right. And it looks like the transaction is going to go through. You could ask yourself gosh why I bought Coca-Cola a year ago. If I had known they were going to do a crazy acquisition which makes no sense like this where I sold on the stock. If the answer is no. You know what to do with that position. Cut it and machine selling becomes a very self-fulfilling. And this is something we're going to see a lot of in the future. Right. I think in the future you actually get a lot more stocks trading together. Right. And I think there's going to be less of a need for human intervention when it comes to trading. Right. And so you can ask yourself this in five years are more computers going to be picking stocks or fewer. Exactly. All right. And so the market is always right. Just remember that the market is always right. Not you or me. The market is be unemotional about stocks and you'll do very well. You have to live to trade another day. All right. Trend Line as a stock. OK so you see that beautiful chart there. The white lines the stock. Right. And it doesn't violate the low end of the channel. Right see the yellow line and then all of a sudden it does there. And if it dips down more than just a couple of percent say five percent or so then computers will start selling. That should be your stop loss. It's self-fulfilling. It matters because it does. I know it sounds bizarre but the market is always right. Be unemotional. Other topics illiquid stocks own unit down tape. Chris what does that mean. Well if a stock doesn't trade much every day right there's other transactions. Right. And you buy a lot of the stock over time. You won't be able to get out really fast. Right. It's because that stock is illiquid. And when that liquid stock goes down you don't own it it basically owns you. That's just kind of silly saying they say on Wall Street. Right. And so people will sometimes say this stock trades like water. That means it's liquid like Microsoft treats like water. I mean there's a lot of liquidity a lot of shares. But be really careful don't ever invest in a company it doesn't trade that much. We we joke on Wall Street by saying it is by appointment. Right. Just be careful. Only invest in companies long and short that trade a lot cast so you can get in and out if you need to okay and just remember with dividends when you're short a stock and they issue a dividend you owe that dividend to the person that owns that stock. So let me talk a bit more about shorting and how logistic works so let's say you want a short Coca-Cola. Right. And so you tell your trader and your trader will then call up different investment banks. Right. He or she will call those trading floors they'll call UBS Goldman Sachs whatever and they'll ask one of my clients wants to buy know once my client wants to short a lot of Coca-Cola. Do you have it available. Right. And so the Goldman Sachs or UBS trader will say give me a sec. The put you on hold and then they'll call up another client of theirs. They won't tell you right. Sometimes it rhymes with reality because that's a big client and I could tell you who read Delta-T is the. All right so they'll call up another client and say I have another client that wants to short a lot of Coca-Cola and I know you own what can I borrow those shares and give it to that client. OK. That's right. So what happens is the trader on the trading floor of the investor bank was able to borrow that stock from another one of his clients. Right. And give you the stock and they'll charge you maybe three or four percent per year. Right. To borrow that. And if the stock doesn't trade much sometimes it'll cost you 20 percent to over a year. You know that's crazy. You'll then take that stock and you will sell it on the open market and then the stock goes down a lot. You can buy it back cheaper and then turn around and return it to Goldman Sachs trader whoever it is. Plus the fees you owe them for borrowing it and you're done. That's it. That's how short works. And then the Goldman Sachs trader will then return those shares directly to their client. That rhymes with reality. OK. So that's. That's how it works. And you never want to short stocks that are crowded meaning to me people are shorting them. Right. So how do you know Chris Well you can actually look in finance at yahoo dot com and look at the short interest in something called the short interest ratio which is how many shares are people short. Some help people calculate that on Wall Street. How many shares are people short a certain stock divided by the average daily trading volume. And if it's more than 10 days of volume for example don't short it because it's a crowded short. And if a little piece of less bad news comes out on a company everybody covers their shorts and the stock goes up and you lose a lot of money. So yeah make sure the shortest ratio is always less than 10 days and make sure your trader finds out what is the cost to borrow that stock. Right. I remember in late 2008 when I was short all the banks I couldn't actually get a Boral on a lot of the banks. It was just too expensive because everyone was doing right now other sort of. All right. So remember that technicals are always self-fulfilling. Right. Computers make them more relevant and a lot of traders believe the relevance. So it becomes relevant. I know it's bizarre. It just it is what it is. Self-fulfilled.