Ninety percent of science fiction is crap, but then ninety percent of everything is crap.”
–Theodore Sturgeon
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Yesterday morning, Portfolio’s Felix Salmon had a post "Adventures in Technical Analysis, Jim Cramer Edition."
I cannot put aside the fact that Cramer is not, and has never been, any sort of technician. We do not dismiss medicine because accountants cannot do open heart surgery, so it seems kinda odd to use a bad technical call of Cramer’s — an admitted non-technician — as proof that technicals are worthless ("astrology!").
But what really caught my attention were the following paragraphs, which amount to the standard criticism of Technical Analysis:
"They all do it: even much smarter and much more analytical traders like
Barry Ritholtz do it too. Do what? Resort to "technical analysis",
which is the art of drawing lines on charts and extrapolating from them
what the market is going to do next.Whenever you hear words like "overbought" or "oversold" or "momentum"
or "support" or "resistance", it means that whatever you’re hearing is
garbage. But it also means that the person you’re listening to has no idea
what’s about to happen, and is therefore resorting to the financial
equivalent of astrology. In such cases, it’s worth ignoring the message
completely, but it’s also worth having some serious thoughts about the
messenger, too."
There are so many different ways to take this down, its hard figuring out where to start. Let’s begin with a definition of what technical analysis is not:
Technicals are not magic. They are not a way to forecast the future, nor are they a guarantee of future profits. They are not based on
someone’s estimate of what future earnings might be, nor do they
require you to guesstimate management’s skill set or presume the
desirability of a new product. Pure Technicians don’t even listen to conference calls or even talk to management.
Technicals can be, however, far less squishy than fundamentals. Technicians use the data that is generated by the markets itself: Price and volume to start, then many other data points and derivatives thereto.
From this basic data, there are many variations of Technical Analysis:
• Trend followers believe markets exhibit persistence, mostly due to big institutional purchasers. This leads to buying uptrends and selling or shorting downtrends. John Henry and Richard Dennis are classic examples of trend follwoers
• Quants use a variety of mathematical data points. A goods example is the fund Renaissance Technologies.
• Contrarians use Sentiment data to determine when markets have moved to far in one direction or another. The goal is to anticipate a major reversal. See Jason Goepfert as a prime example.
• Pattern recognition traders look for various pictures — pennants, flags, cup & handles, head & shoulders, etc. I find that this last form of TA — Pattern Recognition — to be especially prone to Sturgeon’s law above.
There are lots of other types of technicals, but this isn’t meant to be an exhaustive survey (feel free to discuss Elliot Wave, Fibonacci, and other forms of technicals in comments).
The question as to whether technicals "work" or not is actually framing the wrong issue. There is as much Art as Science in the application of TA. That some people
are lousy technicians proves only that it requires skill.
A better question to ask is "What information do charts and related data provide, and how can this be used by investors and traders?"
I posit that, when used appropriately, charts and data can provide tremendous insight:
-Provides a statistical approach to investing, one that describes the probabilities of various outcomes (versus making predictions)
-Charts show you if we are in a bull or bear market, allowing you to manage risk appropriately;
-Trends can keep you away from the wrong sectors (Housing, Autos, and Finance are obvious examples) or keep you in the right sectors (eg., Energy and Ag)
-Developing good risk/reward analyses;
-Tracking what the institutions are doing;
-Identifying specific stocks that might be appealing;
The bottom line is that TA is merely a tool, albeit one used more skillfully by some than others.
Finally, consider this question: If you could look at one and only
one source before buying your next stock or fund, which would you choose: a
fundamental analyst’s report (with no charts in it), or any chart of
your choosing? While I like having access to both, I cannot ever
imagine buying something without first looking at the chart . . .
Note: We previously addressed these issues a few years ago in Tracking the Elephants (Part I and Part II).
~~~
Is it not ironic, technically speaking, that the market is right at the March “lows” and a two day Fed meeting begins?
It’s almost as if they have planned it this way. Hard to wrap my head around but interesting nevertheless.
Also I noticed that a Fed meeting has been scheduled for approx. 1 full week before the Nov. election.
One more thing….that SEC filing for LEH that was done on Sat. is such a joke:
“terms TBD”…..how they get away with that is what is really the “crisis”….
Ciao
MS
TA is most useful IMO for risk management. Stops, targets, and entry points. The way I see it…if people are buying and selling based on any certain strategy – in a significant amount – then you better pay mind to it. Even if its astrology lol
Let’s be honest. The guy is a writer, correct? People who can, do. There are very few, yes this is a compliment Barry, that do both well.
Charts are useful primarily as time savers. Without looking at any financials and possessing only common knowledge about their businesses, if someone were to show me a chart of Apple and General Motors, I could safely reach all sorts of conclusions about what is going with truck sales and Mac sales. And I’d be right. Why? Because markets are largely efficient. None of us is so smart that we can afford to ignore what everyone else is seeing.
It is not that everything is “crap” but everything with TA and fundamentals look nowdays to be as deriding as a golfer searching his holes on a rugby field and asking rugby men for a direction and his tee.
Anyone who dismisses TA is either blind or stupid. As a pure technician, I can tell you it works. I primarily use elliot wave theory and Fibbonacci anlysis. I also like to look at japanese candlesticks, RSI divergence as well as some long term Moving averages.
You think it’s a coincidence that the S&P 500 precisely held the 38.2% retracement on on the MLK holiday scare?
You think it’s a coincidence that the 10 yr bond precisely held the 61.8% retrace in June 2007?
You think it’s a coincidence that the S&P500 failed at 1440 when the 20 mo. moving average came in at 1438? (The 20 mo m.a. is a powerful longer term average)
I could list hundreds of examples of fibbonacci retracements holding and elliot wave analysis predicting turning points in various markets. The 10 yr bond this decade, in particular, has been a tutorial in EW theory and fibbo’s.
– AT
I personally like the slow stochastic combined with the MACD. If an oversold sector or grouping is underwater on the MACD, and it’s only in an unpopular phase, then I see potential gold. At that point, you have to rely on education, experience, and luck. And sometimes patience before it takes off again. But it usually takes off big time.
Right now, a lot of the market is in a blood on the street phase. I’m betting on oil retreating in a reasonably short time … maybe 90 days or less. I also don’t think the market is going much lower unless oil spikes again significantly. This is an enhanced summer malaise that will pass when oil reverses. Until then, it will be pretty depressing, though. These are generally the best times to start looking around for good buys.
>>You think it’s a coincidence that the S&P 500 precisely held the 38.2% retracement on on the MLK holiday scare?>>
I think it was a coincidence and it’s just like a party that everyone is invited to. Why go if everyone else does to. The system knows what technicians look for and COUNT on them buying those levels. If enough of them do them mission accomplished however the actual meaning or reason has nothing to do with it.
YOu think that the last 15 minutes was purely technical??? erasing a 100 point loss (almost)at the March “lows” Not a chance…
Ciao
MS
Technical analysis is an excellent tool, used to model what has occurred, and/or what may occur (or be occurring). As BR paraphrased in an earlier post, ALL MODELS ARE WRONG, strictly speaking. Detractors of TA never seem to notice that any successful trading strategy utilizing TA is a combination of the technicals with a heavy dose of risk control. So when your initial analysis goes bad, the technical will tell you to get the hell out!
Barry: Another thing that charts do is level the playing field. In other words, we all know that the price chart should contain all the information that is known about a stock; all information should be reflected in the stock price. So as a small trader/ investor, with the price chart I have the same information as the “big boys”. When it comes to fundamental information, this isn’t the case; I cannot talk to management or get on a plane and go and look at operations, etc.
Now where I think technicians and others who poo – poo TA get in trouble is that they don’t do their homework. They don’t define their strategies or they don’t follow their own analysis. They don’t take the trouble to findout what works and what doesn’t. Most stuff is just dogma.
A comparable quote from “Adventures in Fundamental Analysis” would sound like something like this:
“Whenever you hear words like “missed earnings target” or “strong buy” or “buy-out rumour” or “the CEO just bought stocks” or “the yield curve inverted” or “multiple expansion”, it means that whatever you’re hearing is garbage. But it also means that the person you’re listening to has no idea what’s about to happen, and is therefore resorting to the financial equivalent of astrology. In such cases, it’s worth ignoring the message completely, but it’s also worth having some serious thoughts about the messenger, too.”
Technical analysis can be great at risk management, the exercise of choosing a stop-loss price level at which your trade idea will be “proven wrong” is one of TA’s greatest virtues.
Fundamental analysis is just about useless without analyzing the expectations about the fundamentals. Fundamental analysis too often emphasizes buying a low valuation and selling a high valuation when the investor would potentially be better served by making an assessment of whether they are buying low expectations or selling high expectations….which ultimately would bring them back to asking themselves questions about any potential for mean reversion in whatever fundamental data series on which they may be basing their decisions…..
price action is pure, price action is king
Do “fibbo’s” work by some arcane law of nature or do they work because there are enough manipulators with enough money to make them work whenever they want? I wonder how well those “fibbo’s” would have worked this morning if somebody had dropped a bomb on Goldman Sucks right at DJIA 11,725.
IMO, read properly, technical indicators can be superior to sentiment surveys because they can tell you what investors are actually doing rather than what they say they are doing — e.g., an average true range says more about stock sponsorship than a survey does — but none of it is really worth arguing about because anything that gives you an edge when you’re making money rather than losing it is okay and telling everyone exactly how you deploy that edge is usually not (okay) so folks like Salmon who don’t actively engage in the game have little chance of ever seeing the whole picture because most of what anyone is going to tell them is …well, refer back to Sturgeon.
I’d guess the main point is, can a connection between a technique or principal and the real-world actions of humans be made? I personally don’t see how that can be done with a fairly big hunk of economic theory (the assumption of a rational actor for example) as well as most techniques including many that are considered quantitative or even fundamental so I don’t use them or refer to them unless they are very popular and I want to understand what other investors are basing their decision-making on.
OTOH I don’t think it’s a stretch to see supply/demand for an equity or sector at play in a simple long-term moving average, or growing investor excitement in an accelerating RSI, MACD or Stochastic, or, for that matter, support and resistance levels as the psychological commitment to the price range where a significant number of investors bought an asset or sold it.
It cost me a lot to learn how to make more good calls than bad ones within the larger context of risk and money management and I don’t waste much time defending it. If I was trying to sell something I suppose it would be another matter — it’s never a good idea to forget that when it comes to money everyone talks their own book — but otherwise it’s just different strokes for different folks and Salmon is perfectly welcome to his opinion: Seems to work for him and has no impact on me …unless he should find himself on the other side of my desk in which case I would be delighted to eat his lunch while telling him it was really a personalized diet plan …hmmmm, think I could charge a fee for that too (hee, hee).
A. Felix Salmon arguments regarding TA show he really does not know what he’s talking about. B. He has no clues as to what astrology really is either.
Tom F.-
I think you are closer to what is actually happening at this point. We both know that “they” would never do that in this environment so the actual reasons mean very little to me other than how I’ve opined above about counting on buyers at those levels.
It’s a rigged game at this point. Less so in the past.
WHat “happy news” are we going to get out of the Fed at the March “lows” at the start of it’s meeting…….that’s really what I want to know. Don’t get me wrong…..Fib. #’s have it’s own merit (used them many times) but decidedly less so as a reliable and true indicator in this heavily “helped” market.
Ciao
MS
I hate to agree with Cramer, I’ve done very well shorting lenders and homebuilders whenever he idiotically recommended them over the last couple years, but I totally agree with the astrology analogy.
But I’ve come to the conclusion that since so many fools trade on their technical analysis (read horoscope), it’s necessary to pay attention to it when trading short-term.
The power of technical analysis is undeniable in today’s market, but I believe it is much more attributable to the amount of money being managed with a technical slant.
15 yrs ago, most TA was little more than chart reading and very little money was managed by TA. I was a fundy analyst at a bulge bracket and frankly most of the salesmen and major funds thought the technical analysts were quirky and funny, but not to be taken seriously.
Today there are huge funds being run with a technical bias. All TA may be B/S, but if everyone’s buying and selling according to the same B/S, then it’s hard to deny it’s importance to your bottom line.
Charts and TA are just indications of the past and are therefore completely useless to determine the future.
Hi Barry,
With regards to Cramer, it isn’t at all that he made a bad call that is the problem, rather it is the fact that he made the bad call on one show and a week later he claimed that he had never recommended the stocks that he had recommended only one week earlier. He even went as far as to say that people who had bought the stocks that he had recommended one week earlier were not paying attention to his show because he had never recommended such foolishness. There is a video of the two shows – juxtaposing him saying “buy! buy! buy” (for mortgage companies, banks, etc) followed by one week later where he denies ever making those recommendations. So the problem is that he is a liar, not that he is doing technical analysis. Cramer should have said “I screwed up last week, and I am sorry for recommending banks, mortgage companies and the other screwed up investments and I will try to do better”. Instead he told his audience that they weren’t listening to him if they had been stupid enough to buy the very stocks he recommended. Lying is the problem, not technical analysis.
There is so much academic research supporting the validity of technical analysis it is embarrassing at this point to be unaware of it. Most people in the field do not call it “technical analysis” but rather momentum, or pattern recognition, or tactical asset allocation, or behavioral finance.
After all, the most famous factor model in finance (Fama) uses TA.
Andy Lo has a new book coming out on the subject:
“The Heretics of Finance: Conversations with the Leading Practitioners of Technical Analysis”
Brian above makes a good point.
Put all other arguments aside and the “self-fulfilling prophecy” angle still plays. Early in my investing/trading journey I also thought TA was voodoo b.s. These days I am almost purely a technical trader. In many trades I don’t know anything about the company other than the ticker.
Listen to this recent speech by Andrew Lo at MIT, “Technical Analysis: An Academic Perspective”:
http://event.on24.com/clients/default/presentation/default.html?titlecolor=000000&eventid=110220&sessionid=7&username=&partnerref=&format=rmmulti&key=28A828822AD18023FD5FDB8F5F090792&text_language_id=en&playerwidth=880&playerheight=640&eventuserid=16993198&contenttype=A&mediametricsessionid=15075148&mediametricid=293267&usercd=16993198&mode=launch
I think it’s amazing how seldom the technical vs fundamental argument resolves into overall strategy and timing, in the sense that a financial planner rather than a trader understands the terms. It would be foolish, for example, to take a position you only intend to hold for a few days based solely on fundamentals. And it is (probably) foolish to make a ten-year buy-and-hold investment based entirely on technicals.
The main problem I have with the constant media coverage of technicals is that for most people, stocks are mostly in a retirement account and buy-and-hold is probably a better strategy, and the technical stuff is just kinda distracting.
Over the long run, business are driven by the fundamentals. But technicals can tell us a lot about the timing. If you’re gonna be actively trading, you need to be aware of them.
Query: Have we spent too many of our limited minutes debunking Salmon’s piece?
a ) TA versus FA (fundamental analysis) doesn’t have to be an “either/or” proposition. One can (and should) use both.
b ) There is more to TA than just charts per se. There are issues of volume, the passage of time, the size of a given pattern relative to other price action that preceded it; there are issues of sentiment; and if the financial instrument in question is a stock or index, there is the matter of the overall health of the market (advance/decline line, etc.)
c ) absent proper money management, TA is of little value.
Critics of TA seem not to realize that there is more to the art than simply looking at one small segment of one chart.
One final point: no investing system can accommodate the majority. Skepticism by the majority is a necessary condition for a given method to be effective at all.
Michael Schumacher:
It was intended as a rhetorical question. Like you said, it is a rigged game. It probably always has been, but now to a much greater degree ever since Rubin was in the Treasury post. Bring on the Black Swans.
I would recommend that any of you skeptics spend a day looking over my shoulder. The problem is not TA itself, but that most are looking at the wrong things. Flags, pendants, trend-lines are of limited value in my world. You need to understand how the quants on WS have set up their trading programs. That takes alot of patience and study.
I have institutional friends that poo poo TA, yet helplessly watch their position get cut in half. Surely the market is wrong, or is it. No, price is never wrong.
TA works. Why does it work? I do not know. Fundamentals work. Why do they work? I do not know. I use both. Being in the the energy sector. I see that TA usually guides us to fundamentals at the end of the road.
I lean towards TA because I do not tolerate the fundamental “spin” well. Like Barry has posted, I tend to believe what people tell me. This has a tendency to create losses for me. By using TA, I keep myself grounded. Good TA establishes trading parameters and builds a plan.
These are just stupid little pieces of “virtual” paper…. I think fundamentals are clear. Barely worth the paper they are printed on. Less so than Money.
It’s a confidence game, technicals give you some insight into that momentum.
and as you draw lines, you might realise… this stock isn’t going up anymore…. Hmmm maybe I should sell…. Oh… this stock has stopped falling, maybe I should buy.
if you are wrong and they go higher, buy it back, or if they move lower get out…
It always seems clear to me.
But, the people who can’t see that stocks in NO WAY follow a “Random Walk” pattern.
and There is something to FA, but I see these people take the knife more often than not…. but in a long enough time frame….
Or the Boogiemen, who can’t do enough analysis to realize that the pain they are talking about is already cooked in.
TA is more reliable in telling you what “the cool kids” are doing, than any of the random bullshit that is flowing out of the wall-street disinformation services.
And why do you think they call him Lenard the monkey.. if you talk about 10 stocks a day, some of them are going to go up, And denial does the rest…. But he as a good idea someone gave him, from time to time.
I use TA as an exit tool and I never ever fail to listen to a sell signal on the charts. I can always get back in if I’m wrong but I’ve saved myself literally millions over the past twenty years using this stuff.
I had good teachers and I just came to the conclusion that TA is simply a path that has been followed up to now, always keeping in mind that it is a path through a blizzard or quicksand in territory we know nothing about. All the guys you mention have been right many times (stopped clock etc.) but I never take them as a lone signal to buy. The one thing we should never forget is that there is no way of knowing why selling or buying happens and charts are the only thing that is reliable. Fundamental Analysis will never tell us all we need to know because the factors within markets are unending. I once went to a seminar on cotton fundamentals and the teacher started to build a model to include everything….the model got bigger and bigger and bigger until it overflowed three large tables; the model was only half completed and still had factors that were unknown. It was a great visual.
You’ve got to know when to hold em.
Know when to fold em.
Know when to walk away.
Know when to run.
Barry,
You are right on…Technicals may not be everything but they can add a lot of value by cutting through much of the clutter.
In our shop, we believe that the next generation of Technical Analysis, is Transaction Level Analysis, which monitors the effects of program trading on price.
If Price, as we learned in ECO 101 is a function of Supply & Demand, and the majority of Supply & Demand is created by ever more large program trading runs as our markets become more electronic, then doesn’t it make sense to monitor the Buy & Sell Programs to see if they are adding or usurping the markets available supply of contracts and/or shares?
Check out http://www.TransactionLevelAnalysis.com
for more info.
We’re not sellin nuthin’ there so feel free to peruse.
C
Barry, you know that pretty much the only time I post is when I disagree or have some kind of constructive criticism, so with that in mind:
Weak form EMH has pretty much decimated TA over the years, and for good reason; if one could reliably make money based on patterns, the trade would quickly become crowded and cease to work. Ask Bill O’Neil about the difference between telling people how to make money investing in stocks and actually doing it (for the record, he badly underperformed the market and his fund lingered for years before finally closing). Or a certain Red Sox owner who saw his fund blow up a few years ago.
Does it mean O’Neil’s wrong about everything? No, but it does mean that his recommendation to buy high sales growth high ROI companies – a tactic with a ton of support in both academic literature and real world returns ala Buffett, Zweig, O’Shaughnessy, etc – is the baby and the stupid cup and handles are the bathwater.
So what if you can look at a stock and say whether the trend is up or down? Just because you can see the trend doesn’t tell you that where it’s going next, and in that way, it’s much like the regression analysis that causes disasters like LTCM to happen.
Still one of the only places I come to read about the markets for free, but I gotta side with Salmon on this one.
> a fundamental analyst’s report (with no charts in it), or any chart of your choosing? While I like having access to both, I cannot ever imagine buying something without first looking at the chart . . .
I’m not sure I agree with your premise that fundamental analysis can have no charts. Fundamental analysis can have data, even tables of tables. Charts are just another view on data.
The way I define fundamental and technical analyses is: fundamental analysis is about the company, technical analysis is about the market’s reaction to the company.
Charts are welcome in either; but in each, the chart has a different purpose. A fundamental analysis chart is a compass, a technical analysis chart is a weather vane.
Look at a plain chart? Sure.
Start drawing lines on it? You’re a quack.
I had to put the following technical nonsense from the “Option Queen” on my blog:
The NASDAQ 100 made a lower high and a lower low in the Friday session which, was a positive session…but not positive enough. There is a gap on the chart from 2006.00 to1995.00. The stochastic indicator is curling over to the downside and will issue a sell-signal within a session or two. Our own indicator is will issue a sell-signal in the next session. The Thomas DeMark Expert indicator is issuing a continued buy-signal at overbought levels. The RSI is simply going sideways. The 5-period exponential moving average is at 2012.33. The top of the Bollinger band is at 2052.48 and the lower edge is seen at 1886.11. The market looks as though it is curling over to the downside with definite signs of exhaustion. The downtrend line for this coming week basis the weekly chart is at 2019.99. The uptrend line is at 1966.22. The indicators on the weekly chart all continue to be positive for the NASDAQ 100 with more room to the upside. The monthly chart is slightly more confusing. The stochastic indicator continues to issue a buy-signal at overbought levels, our own indicator is issuing a fresh sell-signal, the Thomas DeMark Expert indicator is issuing a slight sell-signal at overbought levels and the RSI is simply overbought.
I vote for “astrology” on this subject. Pure technial analysts remind me of hackers poring over the compensatory tips of Golf Digest. Sure they might shoot 85 – but they’ll never approach 70.
I see the “fact” that TA “works” as being due to the “fact” that the markets are not 100% efficient, and there are footprints left by the various inefficiencies that are the basis for the patterns mapped by TA.
The markets are sufficiently efficient so as to render TA not completely reliable, but not so efficient as to render TA useless.
Ya gotta use all of the tools in the toolbox at one point or another.
Hey Barry,
Your post made it to Canada’s Globe and Mail market page
http://www.theglobeandmail.com/blogs/markets
Call me old-fashioned, but I agree with Benjamin Graham when he says “The most realistic distinction between the investor and the speculator is found in their attitude toward stock-market movements. The speculator’s primary interest lies in anticipating and profiting from market fluctuations. The investor’s primary interest lies in acquiring and holding suitable securities at suitable prices.”
As for the one source of information, forget the fundamental analyst’s report and the technical charts, just give me access to the company’s 10K filings for the past five years.
One other thing Barry: RenTech has a bunch of MIT PhDs running around who can do math in their sleep that most of us couldn’t do after a lifetime of studying; even those of us who have pretty good mathematical backgrounds.
Implying that drawing lines on charts and using the quant methods employed by some of the best hedge funds is to bastardize what said quant jocks actually do.
Speaking of technicals…the S&P 500 appears to have completed a small five wave move down today at 1304. Based on technicals, I think we see a bounce back to 1373-1389 (50%-61.8% retrace). 1296 was the 78.62% retracement of the entire advance from March lows. Use that as your sell stop in this market.
If we do get a good bounce to 1373-1389, use that rally as a big time selling opportunity. The next decline could be HUGE.
– AT
Barry,
Any TA should embrace JC’s Fundamental Analysis(FA)arguments. Who else are the TA’s going to make money from? Additionally, FA is logically fundamentally flawed since no one person, etc. knows, has access to, and can calculate ALL of the fundamentals that would be required. Sometimes the variables they do take into account when forecasting correlate well with the business cycle during that period and the FA’s mistake this as causality.
Phil-Las Vegas
“Anyone who dismisses TA is either blind or stupid”
…or both
to which you could add a few other choice descriptors… like dumb as a fish.
I wonder how the TA/Risk Management boys at Bear Stearns managed to miss the 800 lb gorilla of a wee-so-small probabilty of declining home values destroying all their technically analyzed/risk managed profitability models.
TA/RM are just tools in a reality-understanding kit that ought include, more than anything, a bit of wisdom about human nature, and a big dose of humility.
I use both…but for those who think Fundamental are much better than Tecnicals please read John Maynard Keynes…
i imagine if all the investment banks on wall street had fired all of their technical analysts i would have read about it by now.
The reason technical analysis is valuable is because stock markets are just that– a MARKET for stocks. Just as in any other market, there are supply and demand issues– there is only so much demand for XYZ stock, at a given price.
Technical analysis gives you the tools to understand that supply and demand balance.
Is that the whole picture? Certainly not, but it’s useful information to have.
Funny that those who seem to support TA purport to be practitioners while those who are against do not use it. I’m wondering if one is allowed to have an opinion on the subject if he has never really made a faithful effort at learning and practicing TA.
Anyway, If I told you about a trendfollowing system, (one with entries triggered by technical signals and exits based on profit targets) that has a Z-score showing an EXTREMELY high confidence level, would you believe TA works?
For the people out there actually doing research on technical systems, there is gobs of data that shows that it works, time and time again. Sure, the past is not prediction of the future. But if I can show you something that has worked well, and is providing a statistically significant edge, does it matter all that much that it will quit working at some point in the future? Any gifted TA should be trading multiple strategies anyway, so that when one stops working, his portfolio is not annihilated…but that is another story.
Does every TA indicator or signal work as well now as it did 20 years ago? Nope. But that just means other ineffieciencies have developed that we will exploit. Likely, one reason TA supposedly doesn’t work for some people is that they learn techniques and strategies that are 30 years old, and the edge has long since been stripped. My advice is to get off yer arses and start finding new edges to exploit.
I view TA as a way to get into the mind of the market. Let’s face it, humans are herd animals. Why does anyone buy diamonds, or, for that matter Pet Rocks? It’s because the herd moves that way.
It’s a basic survival instinct–we distrust “loners” and contrarians by our very nature.
But look out for those stampedes!
The blind hatred of some fundamental investors to TA always catches me off guard. Although I have little use for fundamental analysis myself because it’s results are slower I have immense respect for a quality FA.
Any competent TA analyst has made enormous returns over the last year.
TA is just a graphical/mathematical depiction of investor psychology as demonstrated by their putting real money into play. Just like reading a map you need to have a basic understanding of certain concepts before it will make any sense.
Like so many other things what you bring to it in terms of your own psychology, knowledge, beliefs, etc. determines what you get out of it. I listen to Nine Inch Nails and hear an orchestra, other people only hear noise, and it’s the same with TA.
Wow, all this of TA=Astrology, and noone mentions Arch Crawford and his multi-decade track record of success?
Interesting..
After twenty years of trading oil, my conclusion is that technicals work.
Why? Because they are self-fulfilling. If enough traders believe, then they will trade based on the technicals. Conflicting movements are not errors, they are “reversals” or “micro-trends”. Much of it is ex post facto as well.
I think it’s nonsense, but it’s nonsense that works. It would probably make as much sense to buy or sell based on average daily bird sightings in Central Park as long as everyone agrees to use that method.
I don’t know much about Salmon but Kramer has no credibility, I think there was a Barron’s article regarding his ‘stellar’ stock picking record a few months ago. He is entertainment and poor entertainment at that.
To me:
Fundamentals tell you what to buy (or sell)
Technicals tell you when to buy (or sell) as Tommy Dorsey (P&F analyst) says ‘if you use one without the other, it is like playing the piano with one hand’
Buy good companies/good sectors/good countries and mkts (usually determined from FA) at the best time possible (usually determined from TA).
Are either always perfect? we all know the answer to that. If you find systems that make you money over the long run stick to them. I agree with BR don’t neglect medicine because accountants can’t perform surgery.
Price behavior reminds me of non-linear process changes in control theory.
If there is sensational news about a company with little effect on earnings/growth, it is like an impulse. If a company has an instant earnings shift to new level, it is like a step change. If a company has consistent earnings growth rate, it is like a ramp function. If a company is very seasonal earnings, it is like a sine function. All this is coupled with delays(inefficient markets), feedback(mania), feedforward(Fed Interest changes), etc., one has a very complicated non-linear process.
To me, technical analysis is an attempt to detect these types of business changes within the complex price behavior. At times, these events are clearly evident. A trend follower may be essentially detecting a ramp function. Fibonacci practitioner may be detecting a step change and simply observing an overshoot/undershoot pattern. A Resistance/Support may simply be observing sine wave pattern.
A problem with technical analysis is that these events may not be clearly evident. One may assume a certain pattern, but may be wrong.
I think Cramer is right on TA for the most part. Most of the stuff from it is just a bunch of voodoo.
I notice that all the great technicians played the commodities markets, which are controlled by real supply and demand. You can probably extract fundamental information from price changes.
Stocks are affected more by sentiment than supply and demand in the short term. You are playing with psychology which can’t be accounted for in charts for the most part.
I don’t know any excellent TA stock players who had a long term track record like great fundie investors and commodity players.
Great post, Barry. Nicely balanced. It gets a little tiresome entering into this old, hackneyed fray, doesn’t it?
I think the benefit of technical analysis can be boiled down to one simple question:
What matters more when it comes to making money investing: what a company does or how investors react to the story?
Personally, I find the Elliott Wave Principle a superior tool. Supplement this with volume, RSI, sentiment and other technical formulations put forward by the likes of Joseph Granville and Larry Williams (remember these old timers?) … and I have found great success avoiding disaster the past ten years in particular.
Indeed, right now, I am alert to the prospect the market may imminently crash. I have somewhat gone back and forth on this — believing sooner or later the market’s correction since last summer will end in a “blood in the streets” capitulation — but that’s because the truth of the matter is just as you said… technical analysis is as much Art as it is Statistical Science.
I think technical analysis often is berated because some practitioners are frequently given to pound the table. However, I believe the need to exercise diffidence is not diminished, despite TA lending some objective capacity to read the tea leaves.
Given the fact a fundamental analyst has to believe a company/CEO, I’d rather look at the data.
The Greek
I will make only this observation.
Everything is magic and voodoo to a Pygmy.
If they have something better than I invite them to use it. I don’t see their yachts parked out back either
Its not simply a case of one or the other; technicals or fundamentals. Collective intelligence works better than the individual sum of their parts. My (lengthy) response is given here:
http://zignalsblog.blogspot.com/2008/06/technical-analysis-is-it-worth-anything.html
Best wishes,
DJF