What Good is Technical Analysis?
(c) 1999 TLC
may not be reproduced without permission
I read charts. I like charts - they seem to me to give clues as to the future movement in stocks, and in the stock market in general. I used to get into arguments with people that don’t believe in reading charts and use other data to make decisions ("Fundamental Analysis") but I don’t argue with them anymore.
Reading charts, ("Technical Analysis or "TA") is much more an accepted practice now than it was 50 years ago. I know this because I have read every book about TA that I could find, and I’ve found some that were written quite a while ago. In fact, most of the people I talk to about the movement of the market use TA in some form or another, even if they won’t admit it. If you are looking at "earnings growth", you are looking at a chart.
Why do I use TA to help me make decisions? Mostly because I have never been successful at choosing a stock, and a point to buy it, based on analysis that didn’t include TA. Way back before most current "average investors" were born, the price of a stock was linked (albeit loosely at times) to its earnings. Not only anticipation of future earnings, but actual earnings that had already been earned. The ratio of the price of the stock to the earnings of the company (P/E ratio) might have some very wild vacillations, and using fundamental analysis, I just could not understand what was going on.
Let me offer a few interesting, and now ancient, examples:
In 1945, B.F. Goodrich earned $7.84 per share, and paid a dividend of $2.25. In 1947, the company earned $16.18 per share, and paid a dividend of $5.00 per share. The approximate average price of the stock in 1945 was $60.00. The approximate average price of the stock in 1947 was $55.00 per share.
In 1957, Republic Steel earned $5.45 a share, and traded around $45.00. In 1959, the company earned $3.43, and traded around $75.00.
I was just a kid in 1957, but my point is simple - when I first started trying to understand when a stock was a good investment, and when it was not, I simply could not understand how a company that was earning five bucks and trading for 45 could be earning less and trading over 50% higher two years later.
It simply made no sense to me, and it still doesn’t, if I don’t use TA. Using TA, the P/E changes in those two stocks make a little more sense. Now, don’t get me wrong, I don’t buy a stock without learning as much as I feel I need to know about the company. But I don’t buy a stock without looking at the chart, either.
Contrary to what some people say, I am firmly convinced that the timing of my purchase is a very important consideration. I started thinking this way right after I bought a good stock on the recommendation of someone I trusted, and it immediately went down in price and has never recovered. I sold it at a loss. Good company, good product, good earnings.
I said to myself, "Self, what am I missing here?"
I was missing two things - one important, and one critically important.
The important thing I was missing was that I had not factored supply and demand into my equation. If a hundred thousand investors want to buy stock in a company that has never made a single penny in earnings, and did not anticipate any future earnings for the next 3 years, some of those investors might be willing to pay $500.00 per share for that stock today. If two lonely investors want to buy a share in a competing company that earns $2.00 per share a year, they might pay considerably less than $500.00 per share for that other stock today.
The critically important thing, and the thing I have never seen mentioned in any "How to Invest Successfully" book, tape, computer program, or seminar is that
****it’s my money****
It’s not my broker’s money, it’s not the author’s money, it’s mine. If I am spending the money, then I ought to make the final decision on when to spend it, and what I spend it on, myself.
There is just no getting around it. The more control I have, the better the result. The unfortunate thing about being in control is that sometimes I make bad calls, and I lose money. The good thing about it is that I am making money in the stock market now, and before I started trusting my own judgment, I was not.
Yes, it’s been hard. Yes, I had to learn a lot. Yes, it was an uphill climb, and yes, I have some big scars. We all have scars. However, I want some rewards for my scars.
Is "the market" in a "top formation"? Tops are usually easy to spot on a chart - violent activity with higher than average volume after a fast run up. Is the market in a "mid -level consolidation" - is it calming down after a fast run up and preparing to go much higher? Where is the market going from here?
Nobody I have talked to knows for sure. Lots of them have an opinion. I think you should look at a long-term chart of the Dow Jones Industrial Average, a chart going back at least 10 years. Then, I think you should look at every piece of economic data about the economies of the United States, and of the world you can, and try and form an opinion about what might happen in the future. Listen to anyone whose opinion you trust. Use the information you already know to your advantage.
Ask yourself, "Self, if that 10 year chart of the Dow Jones Industrial Average were a chart of one stock, and I owned it 10 years ago, would I sell it all, sell some and hold some, hold it all and wait for something to happen, or buy more?"
If I were looking to invest right now, I would choose my specific investment(s), ask the same questions, look at the same factors, and act on my decision. I would trust myself most of all. It’s my money. Somebody else wants it, and my guess is that they have done their homework.
If I’m wrong, I always know whom to blame - if I’m right, I earn a reward. Either way, I am a wiser investor than I was yesterday. |
