Technical Analysis: Does it Really Work?

February 12, 2014

What is technical analysis? It is a strategy where you base your investment decision on previous historical prices, better known as a chart.

During my early years, I researched technical analysis thoroughly and experimented with this approach. I remember fusing technical analysis with an earlier (crude) version of my financial valuation approach. Once I found good investment candidates, I would buy only those that are near the bottom of a trend line. I would also sell companies only if it seemed to hit the “top” of a band. Result: I missed out on some great investments, sold some great investments too early, and held on too long on some losers.

The allure of looking at a chart (that everyone else sees) and making an interpretation based on numerous indicators (moving average, Bollinger bands, etc.) is very tempting. You don’t need to be educated in financial statement analysis to make some kind of seemingly intelligible argument.

But how could you make an investment decision without doing any “real” work? It’s like buying a house by just looking at it, without doing an inspection or appraisal.

A trader/skeptic might argue that I am condemning technical analysis based on just my own experience.

Well, let me ask the skeptics, have you truly seen superior long-term investment results–not just hearsay, but audited long-term results–that were generated based off technical analysis?  I know of no one who has done this successfully for a decade or more.

Warren Buffett, Donald Yacktman, Sir Franklin Templeton, and great investors do not use technical analysis. If success in investing were based on historical prices, then all the rich people would be librarians. If technical analysis really worked, why did so many people lose money during the internet bubble and the financial crisis?

There is no substitute to valuing a business through rigorous financial and market analysis. But it is human nature to want to get rich quick and find shortcuts, so I am sure that technical analysis or some other illogical strategy will continue to persist.

Be careful, having the wrong investment strategy will cost you a lot of money.

It is not what we do not know that gets us in trouble, it is what we think we know that isn’t true that does.

If you know someone who is new to investing, prevent them from making a mistake by sharing this post.

If you know someone who lost money using technical analysis, let them know that I did too.

If you are a fundamental investor, spread the word.

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