CMT Level 1 Questions With Correct Answers!!

1 - Define what is meant by a trend in technical analysis. -ANSWER Uptrend = price reaches higher peaks and troughs; downtrend = prices reach lower peaks and troughs; flat trend = price within a range without significant downward movement. 1 - Explain why determining the trend is important to analysts. -ANSWER Determining a trend early, at the beginning of an up/downtrend enables the trader to profit more. The goal of the trader is to ride the trend until it reaches its end. 1 - Identify primary, secondary, short-term, and intraday trends. -ANSWER Primary = months or years; secondary = weeks or months; short-term = days; intraday = minutes or hours. 1 - Describe the basic beliefs behind the art of technical analysis. -ANSWER - Freely traded, market prices travel in trends. - Price is determined by the interaction beween supply and demand. - Price discounts everything (all beliefs are in the charts). - Prices are nonrandom. - History will repeat (or rhyme). - Patterns are fractal. - Emotions are affected by earlier emotions through emotional feedback (cause of bubbles). 1 - Define "fractal" as used in describing price action. -ANSWER Ability for trends to act similarly over different time periods. 2 - Describe the history of the development of Dow Theory. -ANSWER Charles Dow never formulated his theory. He made an number of publications on the tenets he used in the stock market in the Wall Street Journal over many years that were eventually put together in a book by W. P. Hamilton. 2 - Discuss the basic principles of Dow Theory. -ANSWER Rhea's hypotheses: 1. The primary trend if inviolate. 2. The average discount everything. 3. Dow Theory is not infallible. Other Dow Theorems: 1. Ideal market picture consists of uptrend, top, downtrend, bottom. 2. Economic rationale should explain price action. 3. Prices trend. 2 - Identify the three basic types of trends identified in Dow Theory as defined by time: primary, secondary and minor. -ANSWER Primary = overall broad movement of price from months to years. Secondary reaction = runs counter to primary trend (weeks to months). Minor = unimportant daily fluctuations. 2 - Identify the three basic trend patterns of all prices: upward, downward and sideways. -ANSWER Upward = higher highs and higher lows. Downward = lower highs and lower lows. Sideways = bounded price action between an upper and lower region. 2 - Describe the "ideal market picture" according to Dow Theory. -ANSWER Consists of an uptrend, top, downtrend, and bottom interspersed with retracements and consolidations. 2 - Express the concept of confirmation in Dow Theory. -ANSWER Using the price movements of one average to confirm the price action of another. In Rhea's time, it was the movements of both the industrial and railroad averages. 2 - Explain the role of volume in Dow Theory. -ANSWER Confirmation of trend. It is not a primary consideration though. Volume/price divergences are of importance. Lower volume on rally + more volume on declines = overbought market. Lower volume on declines + higher volume on rallies from the declines = oversold market. 3 - .Explain how a technical analyst uses charts to summarize price action. -ANSWER Charts provide a visual display of price action, making it quicker to assess what the price of an asset is doing. 3 - Discuss the advantages of reviewing price information in chart format. -ANSWER Experienced technical analysts will be able to get a 'feel' for the price by looking at its chart. 3 - Identify the four basic price points represented in charting. -ANSWER Open, high, low, close. 3 - Describe how to construct line, bar, and candlestick charts. -ANSWER Line = connect price/time points. Bar = Each period is represented by a vertical line (bar). The length represents the price range, top of bar is highest price and vice versa, left tick is open and right tick is close. (Open is sometimes omitted). Candlestick = Each period is represented by a vertical rectangle (real body). Thin lines are the shadows. Upper shadow ranges up to period high, lower shadow ranges down to period low. A black candle means open price is above close. A white candle means open price is below close. 3 - Identify the components of individual candles - real body and shadows. -ANSWER Real body is the rectangle on a candlestick chart. The shadows are the thin lines on a candlestick 3 - Review the information available in line, bar, and candlestick charts. -ANSWER Each chart is shown on a price by time chart. The line chart only shows the closing price while the bar and candlestick charts show the open, high, low and close prices. 3 - Describe what is meant by "data interval". -ANSWER A term used to refer to the units on the x-axis. 3 - Define "range" as it applies to prices on a bar or candlestick. -ANSWER Bar = the range on a bar chart is represented by the vertical line. Candlestick = the range is represented by the real body and the shadows. 3 - Define "fractal" and how it relates to chart construction. -ANSWER Trends act similarly over different time periods. 4 - Identify the variables plotted on the axes in a conventional price chart. -ANSWER Time vs price. 4 - Explain the differences between arithmetic and logarithmic scales and their uses. -ANSWER A logarithmic scale measures percentage change on the vertical axis. This makes it easier to interpret price action over a wide price range. 4 - Describe typical methods for displaying volume in a price chart. -ANSWER Usually at the bottom of a price chart. A vertical bar represents the number of shares traded for a given period of time. 4 - Discuss volume as an alternative to time on the x-axis of a chart. -ANSWER A unit of volume could be used on the x-axis instead of a unit of time. The number of shares traded could be set in advance, and then a chart is constructed based on that. Heavy volume days will spread over a few bars in the price/volume chart. 5 - Explain why trend identification is important to achieve profits. -ANSWER Being in the market when it is trending will earn the trader a profit. Therefore, being able to identify a trend early will yield greater profits. Knowing when a trend is coming to an end will help bank profits because the trader will know when to get off the trend. 5 - Recognize an uptrend, a downtrend, and a trading range. -ANSWER Uptrend = higher highs and higher lows. Downtrend = lower highs and lower lows. Trading range = bounded price action between support and resistance. 5 - Describe the concept of support and resistance, and the underlying psychology. -ANSWER Resistance = price zone at which sellers are more powerful than buyers. Some sellers will want to short the stock; some who bought at the resistance zone only to see price decline will want their money back if it goes back to their buy price; and others will want to sell at the resistance zone because the resistance zone is where they wanted to sell to take profit but couldn't for some reason. Support = price zone at which buyers are more powerful than sellers. Some buyers will want to cover their shorts; some who sold at the support zone only to see the price rise will be buyers at support; and others will want to buy at the support zone because the support zone is where they wanted to buy before but couldn't for some reason. 5 - Identify trends using most common methods. -ANSWER - Support/resistance lines. - Identifying peaks and troughs. 5 - Recall how significant reversal points are identified. -ANSWER Demark and Williams: if two bars on either side of suspected reversal point are higher/lower, then it is a reversal point. Percentage method: pre-determined percentage value that determines by how much a bar needs to move in order to be deemed a reversal. Gann Two-Day Swing method: two/three bars that follow a given bar have successive higher highs or lower lows. High Volume method: when price peaks or troughs occer with high volume it is significant. 5 - List general rules for trendlines. -ANSWER - Lines are drawn through at least two support/reversal points when price is rising (trough to trough) and when price is declining (peak to peak). These lines are extended into the future. - Accelerating or decelerating trend lines indicate that a trend is coming to the end. - The more times price touches a trend line, the more significant it is when it is broken. - A broken trend line can be adjusted. - Lines can be linked to closing prices instead of highs and lows. It depends on when market participants are active. - Arithmetic and log charts need to be considered. Arithmetic is good for smaller price ranges. Log is good for large price changes. 6 - Describe and identify breakouts. -ANSWER Penetration of trend line. Signifies important change in supply and demand which may mean the start of a new trend. 6 - List methods for confirming and filtering breakouts. -ANSWER Price must first penetrate the breakout zone. To confirm the breakout there are many methods: - price close above breakout zone. - price exceeds a certain point/percentage above breakout zone. - price has been above the breakout zone for a certain amount of time. - volume increased upon penetration of the breakout zone. - volatility measures (beta, std dev, ATR) can be used as price filters to confirm breakout. - Pivot point technique. 6 - Explain the purpose of entry and exit stops. -ANSWER Used to enter and exit a position. Entry stops can be placed above resistance level and exit stops can be placed below a support level in case price breaks down. 6 - Describe methods for setting entry and exit stops. -ANSWER Exit stops signify the point at which the analysts dominant theory is wrong. Entry and exit stops can be determined based upon the rules for determining confirming breakout levels. 6 - Define retracements, pullbacks, and throwbacks. -ANSWER Retracement: correction to principal trend. Pullback/Throwback: type of retracement. When price goes back to the breakout zone. 7 - Describe the basic principle of moving averages. -ANSWER The average price over a certain period. 7 - Explain how to calculate simple, linearly weighted and exponentially smoothed moving averages. -ANSWER Simple: sum the closing price over a given period, then divide by the period. Linearly weighted: Recent prices are given more weight. Multiply most recent price by the period, the price before that by period - 1 and so on. Divide by the sum of multipliers. Exponentially smoothed MA: used to counter the 'drop-off' effect which occurs when the MA calculation shifts by one period and excludes the initial period and possibly large price effect from the calculation of the MA. It places more weight on recent data. EMA = current period x weight (more weight per period) + previous day's EMA x weight (less weight per period). 7 - Identify trends and signals with moving averages. -ANSWER (1) Long period MA can be used to determine trend, eight up or down (e.g. 200 day MA). (2) MA can act as support and resistance. (3) MA as indicator of price extreme. (4) MA crosses can be price signals. 7 - Describe and interpret Directional Movement Indicators. -ANSWER Describe: Compare today's range with previous day's range. Positive directional movement is when the high today exceeds the high of yesterday. Vice versa for the lows. If both highs and lows are exceeded, then take whichever is higher. If today's range is within yesterday's range, then ignore. The ratio between the smoothed 14-day +DM and the 14-day ATR is calculated. Vice versa for the 14-day -DM. Interpret: (1) When on DI is higher than the other, then the trend is in that direction. (2) Crossover are signals for change in trend. (3) Minor, short period, crosses indicate a sideways trend. (4) Divergences are also indicative of trend changes. (5) ADX line can be created from the absolute difference in the DIs then divide by sum of 2 DIs (ADX is always positive). Wide difference in DI means that ADX line will be large indicating a strong trend. (6) ADX peaks and throughs often signal end of trend. 7 - What are envelope, channel, and band indicators and their characteristics. -ANSWER All of these provide a range within which prices tend to oscillate. Envelope: An envelope that is a certain percentage above and below a moving average price. Problem is that they do not account for changing volatility. Channel: Identified as lines above and below price that are parallel to each other. Band: Same as envelopes except they account for volatility. Bollinger Bands use standard deviation. Keltner and STARC bands are other examples. 8 - Define what is meant by "chart patterns". -ANSWER -