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Technical Analysis A Counterpoint

1,668 Views | 12 Replies | Last: 3 yr ago by redsox34
I bleed maroon
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AG
I realize I never started this thread, as I said I would on OA's thread a while back. So, here goes with some OPINIONS on the broad category of technical analysis (TA). I apologize for the length of the post in advance.

My premise is that what most people refer to as technical analysis is of limited utility in trading or investing decisions. The ideas range from voodoo to hogwash to moderately helpful techniques. There is a reason it is almost never even considered by hedge funds, professional investment brokerage houses, and really by anyone but the more naive individual investors.

The Good Since TA has a lot of adherents, the most useful element is that a significant enough group of people act on certain patterns, thus creating a self-fulfilling prophecy for stock price movements. It's much like an investment analyst's Buy/Hold/Sell changes or price targets- - if enough people believe it, they create a reaction that DOES move markets. Therefore, to ignore TA for its' more unsavory tenets is probably folly. Moving averages, volume tracking, and put/call ratios, for example, are sometimes quite useful supplementary information for timing of purchases or sales. Incidentally, I don't consider items such as insider trade data, price/volume analysis, or upgrade/downgrade data to be TA they are fundamentals that should absolutely be considered.

The Bad The biggest danger, in my mind, of TA is that so many people want to use it as a sole decision method and as a shortcut to evaluating potential investments. Traders can use it to look for better entry or exit points, but for it to be the be all and end all of stock-picking is simply foolish. At the end of the day, buying a stock is OWNING a portion of a company, having a claim on its' assets, and accepting the risks of an improved or deteriorated earnings stream, which could result in a wide range of outcomes, including bankruptcy. In this way, TA tries to dumb-down the market, and takes investors eye off the ball in a way that could be dangerous to understanding what investing truly involves. The other problem is that once a trader has anecdotal success with TA, they are susceptible to becoming a true believer, and further discounting fundamentals of investing. I liken it to a gambler who comes back from Vegas stating they were a big winner, because they won an $1800.00 jackpot on a slot machine. When you delve further, they may have lost a net of $3000.00 during the rest of their trip, but it's more fun to talk about winners than losers. Also, if someone is building a bullish case for demonstrating TA success, realize that the market goes up 54%+ of trading days, and over any 20 year period, it's up 100% of the time, so the deck is stacked in favor of the bulls (which is really nice, by the way).

The Ugly Pure "chartism", as you may know by lingo like "cup and saucer", "head and shoulders" and other patterns observed as indicators or triggers to trade are the voodoo I referred to in the opening above. The basic premise is that because these patterns heralded price movement at some point in the past, they are predictive of future behavior. That is Investing 101 material THE PAST IS NOT NECESSARILY A PREDICTOR OF FUTURE RESULTS. It's kind of hilarious to watch people play with chart axes until they get a picture they want to see, and pass it off as "analysis of a technical nature". It's artwork at best, and claptrap to everyone else.

I realize others have differing opinions, and I'd love to hear them. Happy investing!
RightWingConspirator
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AG
I suggest putting on your flame suit now. I tend to use charts to time purchases, but most of the time I talk myself out of waiting for chart indications / buy signals only because what difference does a dollar or two make when I plan on holding the equities I purchase for at least 3-5 years?

That said, I don't begrudge people their use of charts, but for me, I'm a buy and hold investor that hasn't seen much utility out of them. As a trader, it may be more useful.
"But it is easier to purchase products that denote superiority than to be actually superior in economic achievement." - Thomas J. Stanley
Bird Poo
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I bleed maroon said:


The Bad The biggest danger, in my mind, of TA is that so many people want to use it as a sole decision method and as a shortcut to evaluating potential investments. Traders can use it to look for better entry or exit points, but for it to be the be all and end all of stock-picking is simply foolish. At the end of the day, buying a stock is OWNING a portion of a company, having a claim on its' assets, and accepting the risks of an improved or deteriorated earnings stream, which could result in a wide range of outcomes, including bankruptcy. In this way, TA tries to dumb-down the market, and takes investors eye off the ball in a way that could be dangerous to understanding what investing truly involves. The other problem is that once a trader has anecdotal success with TA, they are susceptible to becoming a true believer, and further discounting fundamentals of investing. I liken it to a gambler who comes back from Vegas stating they were a big winner, because they won an $1800.00 jackpot on a slot machine. When you delve further, they may have lost a net of $3000.00 during the rest of their trip, but it's more fun to talk about winners than losers. Also, if someone is building a bullish case for demonstrating TA success, realize that the market goes up 54%+ of trading days, and over any 20 year period, it's up 100% of the time, so the deck is stacked in favor of the bulls (which is really nice, by the way).
Disagree if you follow OA or someone you trust. The mass accumulation method allows you to actually own those companies for the long term.
Baby Billy
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AG
My entire business and livelihood is based on long-term, goal-focused investing, so I'm obviously a big proponent of that.

But you're foolish if you don't think technical analysis can be used to predict ultra short term price movements. Volume and big money can absolutely control those ultra short term movements on a day to day basis. If short-term trends, patterns, and volume of a stocks price movement at $25 were largely the same of the ones at $50 and $75, is it more likely that can repeat itself again at $100?

There's a difference between trading and investing. I will agree with you that the goalposts for the charters and pattern folks are constantly moving, but I think that's kind of where long-term investing and short-term trading intersect. I believe markets are efficient and quality companies with consistent earnings growth and positive cash flows will always trend up, but the shorter term movements between point A and point B can be recognized by using some technical analysis no doubt.
I bleed maroon
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ehrmantraut said:

My entire business and livelihood is based on long-term, goal-focused investing, so I'm obviously a big proponent of that.

But you're foolish if you don't think technical analysis can be used to predict ultra short term price movements. Volume and big money can absolutely control those ultra short term movements on a day to day basis. If short-term trends, patterns, and volume of a stocks price movement at $25 were largely the same of the ones at $50 and $75, is it more likely that can repeat itself again at $100?

There's a difference between trading and investing. I will agree with you that the goalposts for the charters and pattern folks are constantly moving, but I think that's kind of where long-term investing and short-term trading intersect. I believe markets are efficient and quality companies with consistent earnings growth and positive cash flows will always trend up, but the shorter term movements between point A and point B can be recognized by using some technical analysis no doubt.

I'm seeing a bit of contradiction in some of your statements, here.

I guess it depends what one's definition of technical analysis is - I think emotion-based momentum is real, as are short-term arbitrage opportunities, and I've already stated that price/volume indicators are also helpful. But at "patterns" and "predict price", you lost me.

To be clear, charting as a prediction tool, such as the triple fibonacci half-gainer with a twist chart pattern is no more predictive than flipping a coin, in my opinion. Maybe I'm foolish? I can live with that.
Ragoo
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If anything it gives you confidence in the price at your purchase to hold through any oscillation. Simply buying and holding is hard because 5 years is a long time.
Baby Billy
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Not just patterns, but patterns coupled with volumes.
Like I said, we're talking minute by minute trading and cents instead of dollars in a lot of cases
I bleed maroon
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ehrmantraut said:

Not just patterns, but patterns coupled with volumes.
Like I said, we're talking minute by minute trading and cents instead of dollars in a lot of cases
Still not sure I follow. If you're talking picking entry/exit points, like buying the dips, or waiting for a spike upward to short the stock, or noting the trade ticks and volume, I'm with ya. BUT, if you're saying "I saw something similar to this volume and chart pattern and volume in 2013 (or last week), so therefore, I can with some degree of certainty predict this price movement will occur", then I'm out.

The issue is that the river known as the stock market is changing constantly - different traders (with their own habits and emotions), companies in different financial condition, etc. - and you never step into the same river twice. Yes, it's still water, but by definition it's not the same, or predictable. I could buy into a statement that the stock will go up when this happens 54% of the time, but a random number generator would perform the exact same way.
lb3
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I'm mostly in the voodoo camp but it's foolish to think certain chart patterns and concepts don't represent real financials.

If a holding company has no debt and liquid assets of $1B you would expect it to have a market cap of $1B and a very narrow trading band. For a real business, add in real property, minus debts, add in an estimate for intellectual property, sales volume, margins, predictions for sales growth, etc. All that becomes the basis for estimating the market cap and the varying estimates on the high and low end of the market represent the trading band.

When investors change one or more of their estimates for the positive or negative, 'resistance' or 'support' levels are broken and you can expect the stock to break out of it's previous trading bands.

If some investors perceive a higher market cap is justified based on some new product or market fundamental, you may see an upward breakout from previous trading bands. Once the investors push up the valuation and exhaust their capital in doing so, if no other investors share their exuberance for that company, the valuation will naturally settle back down to the previous valuations. Creating a classic 'head and shoulders' trading pattern. Looking at the volumes can help tell you how much consensus there is for the new evaluation of the company and whether a new support level was just created or if a new shoulder may be coming.

Of course, just looking at charts blindly without attempting to understand the business or the direction set by its leadership team is where the voodoo gets turned up a notch.
oldarmy1
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TA is a confirmation tool for a holding or trade that you have invested time in learning/knowing fundamental analysis of a company, the sector it lives in and the Macro environment of the markets as a whole.

A chart confirms all of the hours of digging into a company, speaking with insiders, it's covering analysts and the single most important TA indicator, volume. I don't know how many times I've said that volume is the #1 indicator because that is institutions and the super wealthy putting their money "talks" out there for all to see, who will see it.

It's why my track record on mass accumulation stocks like ROKU, SQ, JD, NIO on and on to the last one, MGNI, have been long term winners. As long as the macro environment stays consistent then all of the above will show up on a chart.

Another aspect I rarely see mentioned is that understanding market makers is key as well. Flash downs like AMD Friday where I tweeted premarket to look for a opening quick flash down below $92 before it popped upward, and that I would be adding on that early flash, was because I have studied also the very nature of the people dealing the cards. They want you to fold and not enjoy the winnings. "shakes" and "trend breaks" are big money's way of punishing day traders or the "hopeful gamblers". It's why I say I generally don't day trade unless an obvious opening presents itself.

Go back on the stock trading thread and locate the day I posted that MGNI is now a trend stock. Go back and locate the day I said NIO is now a trend stock. Go back and locate the post where I said JD is now a trend stock. All of the mass accumulation stocks that break key technicals were posted AT THAT TIME and BEFORE their big moves upward. If that is voodoo, dumb luck or gambling then stick a pin a my doll, flip a coin on its side and point me to the stock craps tables.

You know what I said early on in that stock thread? Just because you can't do it doesn't mean others can't, that I can't. Obviously that is quite true. However, it amazes me that in the face of real time facts year over year how anyone can remotely question that reality.
Bob Knights Paper Hands
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What's not discussed on here is that the reason TA works in the first place is based on human behavior. Resistance and support levels happen because of people selling to get their money back or buying back in at the price they previously sold at and missed a run up. Yes there is definitely some self-fulfilling aspect to TA. I agree with you that investors recognition of it will tend to change price behavior as well.
I bleed maroon
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oldarmy1 said:

TA is a confirmation tool for a holding or trade that you have invested time in learning/knowing fundamental analysis of a company, the sector it lives in and the Macro environment of the markets as a whole.

A chart confirms all of the hours of digging into a company, speaking with insiders, it's covering analysts and the single most important TA indicator, volume. I don't know how many times I've said that volume is the #1 indicator because that is institutions and the super wealthy putting their money "talks" out there for all to see, who will see it.

It's why my track record on mass accumulation stocks like ROKU, SQ, JD, NIO on and on to the last one, MGNI, have been long term winners. As long as the macro environment stays consistent then all of the above will show up on a chart.

Another aspect I rarely see mentioned is that understanding market makers is key as well. Flash downs like AMD Friday where I tweeted premarket to look for a opening quick flash down below $92 before it popped upward, and that I would be adding on that early flash, was because I have studied also the very nature of the people dealing the cards. They want you to fold and not enjoy the winnings. "shakes" and "trend breaks" are big money's way of punishing day traders or the "hopeful gamblers". It's why I say I generally don't day trade unless an obvious opening presents itself.

Go back on the stock trading thread and locate the day I posted that MGNI is now a trend stock. Go back and locate the day I said NIO is now a trend stock. Go back and locate the post where I said JD is now a trend stock. All of the mass accumulation stocks that break key technicals were posted AT THAT TIME and BEFORE their big moves upward. If that is voodoo, dumb luck or gambling then stick a pin a my doll, flip a coin on its side and point me to the stock craps tables.

You know what I said early on in that stock thread? Just because you can't do it doesn't mean others can't, that I can't. Obviously that is quite true. However, it amazes me that in the face of real time facts year over year how anyone can remotely question that reality.
Hey - this thread is about TA, not about you, my friend.

Your paragraphs 1,2 and 4 indicate your preference toward solid fundamental analysis with TA used to determine an entry (or exit) point. That's great - keep up the good work.

My premise is principally focused on those who say - "is this a cup-and-saucer or head-and-shoulders pattern?" on a random chart they came across, and used that, AND ONLY THAT data to make trading decisions. I think that's far different than what you're attempting.

Your paragraphs 3,5, and 6 deal with your individual style and approach, which I do have some significant issues with, but if you would simply agree to have TexAgs change your thread title to "Active Traders", we can avoid most of that. I'm just trying to give the novice investor a chance to avoid allocating Little Johnny's entire college savings account into QD, because some guy on a message board said load up the truck at $2.15 because the train is leaving the station. That's not the "stock market", that's speculation, and is not appropriate for everyone. Agreed?
oldarmy1
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AG
A thread simply titled "Stock Markets" seems innocuous. Certainly people can read and determine if it's for them or not.

But I agree that if you place any dollars on a trade simply because of a pattern your playing with fire.
redsox34
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AG
Can someone explain how projecting a companies financials 5-10-15 years in the future to come up with a fundamental valuation is not voodoo? It's a complete guess. My valuation teacher at A&M even called fundamental valuation an art, just like how you refer to TA.
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