Thursday, September 30, 2010

The Case For Technical Analysis

In my last post I referred to the amount of money that has come out of equities since the spring.  Apart from those who have left for good, are the remainder doing the right thing?  How will they know when to return?

I am a big believer that we should not invest in anything we don't understand.  Anyone who says they understand this market, other than at a mile-high macro level, is not telling the truth.  Sure, there are people who say it is like the markets during the great depression, or similar to previous major recessions, or like any other recovery - but slower.  The truth is, they are simply speculating.  Some are just outright lying.

Having said what I did about not investing in anything we don't understand, I am going to contradict myself and tell you I have money in this market.  While I don't understand this market, I do know a little about technical analysis.  The beauty of technical analysis, if we can call it that, is we are not required to understand the fundamentals.  Good thing, because fundamental analysis for this current market went out the window a while ago.

I have a methodology I use for valuing companies, but find that information all but useless, currently.  That will not always remain the case, but for now I will rely on technical analysis.  In some ways, it reminds me of the tech wreck almost ten years ago.  I remember finding good companies, yet invariably, only a couple of days later their stock price was lower than ever.  Technical analysis works better on groups than on individual companies.  So, for now, I have switched to Exchange Traded Funds (ETF's).  I have shortened my time horizons since the volatility of this market is high.  Trades tend to be days and weeks, rather than months.  I also risk less by holding smaller positions.

For the people that know little about technical analysis, I think they are doing the right thing by getting out.  The trick becomes knowing when to get back in.  Again, I use technical analysis to provide me with a signal to return.  However, there is another way.  When the stock price of a good company like Research In Motion drops, despite having pretty good fundamentals, I find the best thing to do is to take a "show me" attitude.  I give the stock a couple of quarters for the price to perform consistent with the fundamental valuation.  After the two become more predictable, it could be time to test the waters again.

The "experts" say the problem with leaving the market is knowing when to get back in.  I applaud the people who stop shopping when they can no longer tell a sale price from an exorbitant one.  Why would anybody want to go shopping when all of the price tags are meaningless?  I wish I had a nickel for every time I have heard that you can't time the market.  To my mind, all it really takes is a little common sense.


  1. Ian:

    I believe that I understand what is going on in this market. I believe that humankind's understanding of markets has increased dramatically in recent decades and that we are on the threshold of a breakthrough in understanding for millions of us.

    I would add, though, that I do not KNOW that I understand the markets. My beliefs are tentative ones. I could be wrong. We are still too early in the discovery process for any of us to justifiably become too dogmatic.

    If we all took that attitude, we would all advance further at a quicker pace, in my belief. I believe that the biggest thing holding us back today is a dogmatism that things we once thought we knew really are so. Too many of us are holding onto unjustified convictions developed in an earlier day.

    The good thing about the economic crisis is that it is causing more people to question their beliefs. Just about everything has some sort of good side to it. It may be that there will come a day when we will look back at what is going on today as a blessing.


  2. @Rob

    Personally, I believe attitude is huge (as is actually doing!) Things happen for a reason. It is up to each one of us to determine what this financial crisis means for us and whether we want to throw in the towel, or to roll up our sleeves. I choose the latter.

    Thanks for dropping by.



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