What Does It Mean When There Is ‘Price Action’?

Technical analysis is a trading tool that uses trading activity statistics, specifically price movement and volume, to try and predict future movement in the market. When a technical trader talks about price action, they are referring to the day-to-day fluctuation in the price of a particular stock. 

Key Takeaways

• Price action is the daily fluctuations of a company’s stock price.
• Price action trading involves analyzing a stock’s price movements and patterns to predict future trends.
• It is a subjective strategy as each trader interprets the results differently, which is why it’s important to use price action trading along with other strategies.
• Traders rely on technical indicators like the relative strength index (RSI) and the moving average convergence divergence (MACD) to understand the price movements.

What Is Price Action?

Traders gauge a stock’s price action by monitoring patterns and indicators to help find order in the seemingly random movement of price. Generally, a trader uses candlestick charts to better visualize and contextualize price movement.

It’s a subjective art; two traders might study the same price action and arrive at completely different conclusions about what the pattern represents. This is one reason that price action is best considered just one part of the overall trading strategy. 

Price action trading is a trading strategy in which trades are executed strictly on the basis of an asset’s price action. It’s a tactic most often employed by institutional and retail traders. Generally, these traders use leverage to place large trades on the basis of small underlying price movements.

Important

Price action traders need to be aware of “false breakouts” where the price temporarily breaks a support or resistance level but reverts back.

Predicting Price Actions

Hundreds of indicators have been designed to help predict an asset’s future direction. These include the relative strength index (RSI), the moving average convergence divergence (MACD), and the money flow index (MFI). They use historical trading data to analyze and predict price movement. 

Short-term traders plot this information with charts, such as the candlestick chart. Common chart patterns include the ascending triangle, the head and shoulders pattern, and the symmetrical triangle. Patterns are an integral part of price action trading, along with volume and other raw market data. It’s a difficult strategy, part art, and part science, that even experienced traders struggle with. 

Ultimately, in trading, no two people will analyze every bit of price action in the same way. As a result, many traders find the concept of price action to be elusive. Like other areas of active trading, gauging the price action of a stock is completely subjective and price action should be just one of many factors under consideration before entering into a trade.

What Is an Example of Price Action?

Price action is the movement of a financial security’s price over time. For example, Company ABC’s stock price opens at $50 on Monday and closes at $55, confirming an upward trend. On Tuesday, the price opens at $56 but during the day drops to $54, before closing the day at $55. The price action shows that while there was a pullback during the day, it maintains its support at $54, indicating buyers are still active. Technical traders may infer this as a continuation of the uptrend, looking to see if the share price breaks above $55 in the following days.

What Is Technical Analysis?

Technical analysis is a method of evaluating and predicting the price movement of a financial security, such as a stock. Technical analysts study historical price data and volume, using charts and indicators to identify patterns and trends to help determine exit and entry points (buy and sell decisions). The belief is that past price data can predict future price data. Technical analysis is suited for short-term trading and stands in contrast to fundamental analysis, which is better suited for long-term trading. Fundamental analysis focuses on a company’s financial profile to make investment decisions.

What Are Common Technical Analysis Indicators?

Common indicators used in technical analysis include moving averages (MA), relative strength index (RSI), moving average convergence divergence (MACD), Bollinger Bands, and stochastic oscillators.

The Bottom Line

Price action trading, a component of technical trading, studies a stock’s historical price movement and volume to predict future trends. It uses candlestick charts and patterns, like triangles or head and shoulders, to make its predictions.

The process is a subjective approach because traders interpret the price action differently, so as with most trading strategies, it is best used in conjunction with other strategies. Short-term traders use other indicators, like RSI and MACD to refine their results.