Friday, August 31, 2012

Fundamental versus Technical analysis and Dow Theory. Who is right?



The sad truth is that whatever method you apply it is very difficult to make money in the markets.

As the saying goes: It is easier to talk (or write) about money than making it.

Thus, it is difficult to discern (a) the encrypted messages of technical analysis, and (b) the validity of the “fundamental” information.

Personally, I tend to believe that you have to go with the flow. Ego is a very bad counselor in the markets. Thus, if I were placed between a rock and a hard place, I’d choose the investment method that relies less on you own ego. So I’d choose technical analysis by default.

Of course, by choosing “technical” you have not fully solved the ego problem. The ego can bias our application and interpretation of technical analysis. Furthermore, most of the technical analysis tools are too fuzzy and do not let themselves well to hard and fast rules that minimize “ego” interference.

My only concession to “fundamental analysis” would be when trying to ascertain very long term investment themes. If we, for instance, believe in peak oil, which I don’t, then we should adjust our very long term investments to this belief. If we believe, as I do, that major currencies and their associated debt will undergo major upheaval during the next decade, then a very long term position in gold might be advisable. However, my concession to “fundamental analysis” is strongly nuanced. How do I know that I am not wrong in my long term investment theme? How do I know what I don’t know? The more I know about economics and investments, the more I realize that knowledge plays a minor part in achieving investment success.

Famed investor Soros is a good example of humility at work and his track record attests to his wisdom. Ego is appealing to us but it can be very costly in the markets.

So I am clearly in the “technical” camp by default. Merely because I don’t trust earnings reports, macro economic analysis, etc. I don’t trust the data (in most instances) and I trust even less my interpretation or others interpretation thereof.

I repeat there is no magic formula (well there is one here  http://www.magicformulainvesting.com/ ) in investing. This is why somebody said that trading (and investing) “is the hardest way to make easy money”.

For me most “technical analysis” techniques are dubious at best (try to test them in a computer and you will see it by yourself) but they are less harmful than a bloated ego which is the result of too much fundamental analysis.

After all is said and done, only one tool of technical analysis has stood the test of time and has a proven track record: The Dow Theory.

And this is why I hone it every day and I kindly encourage you to do so.

Sincerely,
The Dow Theorist

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