Fundamental versus Technical Analysis
Ever since the first mathematician plotted some sort of graph that compared price to time, there has been a debate about whether price patterns or the basics of the underlying security are better predictors of price movement. For Pristine Trained Traders, there is no question.
Investors who believe that fundamentals are the primary reason to buy and sell stock are relying on the underlying economics of the business itself, the industry, and the economy as a whole. They look to things like the balance sheet of the company, earnings reports, and raw material supply. They look at the experience and depth of the company's management. They look at economists' outlook for the industry. They look at the prime rate and if the fed is likely to cut rates. They tend to hold for a longer term, largely due to the fact that the things they are basing their decisions on do not change overnight. Most 'fundamentalists' would agree that they would not buy AMZN in the morning and sell it in the afternoon based on fundamental reasons.
Traders who believe that technical analysis is the primary reason to buy and sell stocks are relying primarily on three beliefs. First, 'technicians' believe that the price is a total reflection of all forces in the market, and this includes all economic and fundamental information. Second they believe that prices move in trends are repetitive, sometimes in a predictable way. Third they believe that people's emotions are a large driving force in prices, and these patterns can be seen in chart patterns. Technicians will hold stocks for a variety of time periods, from a small part of the day to weeks or months or years. However, they do not believe in the 'buy and hold' philosophy.
That is a quick summary of both approaches. However, we are not going to deceive you. From here on out we are going to show you why we know the technical approach to be the superior one. Many of you have probably gone through the cycle when you have started out. At one point believing that only fundamentals are the way to buy and sell stocks. Then later believing in some form of hybrid, and then finally finding that only technical analysis was the way to go. Usually, when dilemmas like this hit, we land somewhere in the middle. This is not the case. Technical analysis is the best, and only, buys and sell indicator for stocks.
Notice above that the term 'investor' was used for the fundamentalist, and the term 'trader' for the technician. This is a reflection of the longer-term outlook you must have when using fundamentals. Due to the many changing things in the market place, we believe that the concept of 'buy and hold' is no longer valid. There are several reasons, but consider the following. Years ago the major companies were more industrial in nature. They had big plant that required big start up costs. No one could open up a competitor to General Motors over night. It took huge resources. Today many of the biggest companies are high tech. They deal with computers, related devices, and software. This technology changes quickly and almost anyone can enter the field with a good idea and some creativity. It is the concept that 'two kids in a garage' can bring a company to its knees. Consider Iomega, a disk that holds 100 Megs of information when the standard was 1.44 Megs. They got a deal to be standard equipment on all computers. Sound like a long-term investment. That is, until someone discovers that you can to the same thing on a compact disk for less money. Iomega had to change and adapt or have a new product, or they are out of business overnight.
Was there money to be made in Internet companies in the 1990's? There were stocks that went literally from one dollar to hundreds on some cases. They did this on no earnings; no earnings predictions for next year, and on borrowed money. No fundamentalist could justify purchases in most of these. Yet, technicians had a field day. Examples of this
Even if you do believe that fundamental should figure into the equation, how do you handle the realization that we really don't know what the fundamentals are? The Enron debacle opened the eyes of many investors to what has always been the case. Companies can twist things any way they like. What information can you believe? Hundreds of companies have been caught doing this.
Even IF the companies do not 'cheat', do you realize that the differences in 'accepted' accounting practices vary so much that it can make positive earnings go negative, and negative earnings go positive? Yes, the fundamentalist is investing his money in a company because its earnings are 'pennies' better than last quarter or then analysts' consensus. It is comical, when you understand what is being attempted.
Technicians do not put their money where others 'say' you should put your money, they follow the footprints of big money. They don't care what big money 'says' is going up, they care what IS going up. Charts tell no lies. Analysts, CEOs, and accountants tell lies.
Despite the belief to the contrary, it is the technical trader that has less risk than the fundamental investor. In all things, we can be more certain of what will happen tomorrow than we can of what will happen next year. Technical traders sell losing positions as a part of their philosophy. Fundamental investors hold under the belief that all is well until the fundamentals that were the basis for their entry change. It brings up an interesting question that many fundamentalists have a hard time answering. Just when do you enter a stock based on fundamentals? When do you take profit? When do you cut your losses and move on? The answers to these questions are usually random numbers, or they simply do not exist.
At Pristine , we believe in making our decisions from charts. Even core trades are based on the chart. You will find that fundamental information is usually reflected in price changes in the stock before it is reported as a fundamental change. It is not that technicians believe that fundamentals are 'wrong'; it is simply that we believe that fundamentals are already built into the charts.
So in summary:
- Technical analysis incorporates all information that exists regarding the stock, the market, and the news about the company.
- Fundamental information is usually way late, and usually cannot be trusted.
- Even long term time frames trade by the chart, not fundamentals.