CNBC’s Jim Cramer likes to work with a combination of analyzing both fundamentals and charts to spot the next big moves in the market.
Charts are especially helpful for determining the best entry and exit points in a stock, which is why Cramer waits to pull the trigger on a stock until after he looks at the charts.
“I would consider looking at the chart of the stock you like as part of the homework, making it ingrained into your thinking,” the “Mad Money” host said.
When an investor buys a stock, he is betting from the start that the stock will go up. That means understanding the historical patterns of the stock’s charts and where it might be headed.
Sometimes, finding a bottom after a long decline can be incredibly lucrative. In 2009, when the market was in severe decline, Cramer had the sense that the decline was slowing, so he started to look for the most bulletproof stock he could find.
He came up with AT&T, which seemed to have promising prospects, with a roll out of a new Apple iPhone that was expected to produce record profits for the company.
Cramer first checked with four chartists, who all agreed that AT&T’s stock had a strong foundation. They also agreed that it had established a bottom of $21 in 2008, amid the tsunami of selling. They figured this out by looking at the volume and seeing that it had expanded to a level far beyond a normal period’s trading. That was a sign that the sellers were exhausted.
“As long as sellers overwhelm buyers with their dumping, no base can form,” Cramer explained. “A climax is a sign that those potential sellers who had been holding on for some time are finally giving up en masse.”
Additionally, when a chartist sees that trading volume has grown but the stock has not gone down, it often means that the stock has finally found its floor and is now safe to buy. In other words, the buyers’ power to determine the direction of a stock is finally equal to the sellers’.
Chartists also look at the advance of a stock, which happens when the stock takes out its resistance overhead.
Rather than simply looking at a stock’s closing price and graphing it against the previous day’s close, technicians use what is known as a moving average to better represent a stock’s movement. They calculate the moving average by taking a stock’s closing prices over a period of time, adding them up, and then dividing by the number of days in that period.
So when AT&T cracked through the ceiling of resistance marked by its 200-day moving average, it signaled to Cramer that the stock was finally a good investment or trade — its old roof became its new floor.
“When you see this kind of reliable pattern, as AT&T demonstrated, despite what the fundamental analysts might be saying, you have to use the discipline that these technicians give you to pull the trigger and take advantage of a fabulous buying opportunity,” Cramer said.
Otherwise, that opportunity could be overlooked whenever the market takes a beating, simply because the charts were not taken into consideration.