A line chart is used to plot the closing price of a stock over a specified period of time.
They are popular among investors who place emphasis on the closing price instead of the open, high, or low price.
If you've ever looked up a Mutual Fund you will often find that the historical price of the fund is plotted using a line chart.
This is because mutual funds don't have an open, high, or low price. They are only priced once a day and that's at the end of the day. The closing price of the fund is the only price that is ever quoted.
Line charts can be used for a number of things. In this lesson we are only going to refer to the chart as it relates to stock prices.
To gain a better understanding I'm going to relate it to something you probably had to do in grade school.
In grade school did you ever have to perform simple experiments where you had to produce a set of data points? You'd then take these data points, plot them, and display your results in a graphical format.
I remember doing this, and I hated it! I think I hated it because my data was supposed to turn out one way and the graph revealed that I screwed up somewhere in my calculations.
If I was frustrated enough I'd just erase the graph, make a new one that resembled what it was supposed to look like, and then turn in my assignment. All the while hoping that my teacher would not realize that my data and graph did not match (smile).
I know I was such a bad student at times...
Well stock line charts are essentially the same type of graph. The closing prices of the stock are the data points and they are plotted on a graph like so:
**The little dots are the stocks closing price for that particular day**
Once the closing prices (dots) are plotted on the graph, a line is drawn from one closing price to the next and the ending result is a stock line chart.
And just like the graphs we plotted in school, we use the picture of the graph to tell us what's going on.
We look at the chart and try to gain a perspective on what is happening to the stock price. If you look at the chart and the line is progressing steadily upward, then you know the stock is going up in price (it's bullish).
This "usually" means that the company is performing well, people really like the stock and they think it's a good buy. They are bullish on the stock, so they keep buying it and this buying pressure pushes the stock price up.
If the line is zig-zagging all over the place like the POT chart above, then you know you have a volatile stock.
Evaluating the closing prices only makes it easy to see how the stock price is behaving. This in turn helps you identify certain price barriers.
At times you will see places on the chart where prices tend to be stuck. If you see prices are stuck in a certain place then you may wait to place a trade until it progresses past that point.
Another aspect of line charts are their usefulness for end of day evaluation. The wild price-swings that occur during the day (intra-day) are not seen on the chart. So in a sense, the chart cancels out the noise and gives you the final decision, the closing price.
The closing price is the final say so for the day.
Day traders NEED to know what goes on intra-day so this style of chart wouldn't be as useful to them as a bar or candlestick chart would be.
One disadvantage of the line chart is that it does not help you evaluate how wide the daily price range is. By looking at the closing price of a stock it may appear that it is in a steady trend, but during the day the stock could swing wildly up and down in price.
If you want to enter a trade on this kind of stock, you need to know this information because your account value will swing up and down with the stock. If you already know it's a volatile stock, you won't be as concerned with the wild price swings.
You also cannot see if there was a large price movement between the opening and closing price. This can be seen with a bar chart however an easier way to see this relationship is with a candlestick chart.
Proceed to Lesson 4: Candlestick Chart.
Module 4: Stock Charts