Exposing the Well-worn Ruts of Market Habit

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"Most of the time common stocks are subject to irrational and excessive price fluctuations in both directions as the consequence of the ingrained tendency of most people to speculate or gamble...to give way to hope, fear and greed. - Benjamin Graham

Fundamentals are the primary focus of my small-cap stock investing strategy. Ultimately, fundamentals determine the long-term direction of a stock. But long-term growth and strong fundamentals alone don't assure successful stock market returns.

As with most things in life, timing is everything and investing is no exception. Fundamental research must be complimented by technical analysis - a useful tool for determining the ideal time to buy or sell a stock.

One simplified way to think about it is this: fundamental analysis helps you decide what to buy; technical analysis helps you decide when to pull the trigger.

We've used technical analysis to help time our Small Cap Investor PRO recommendations. Two silver stocks have rallied strong since our recommendation was published, and one is up over 100 percent! Learn more about this silver opportunity here .

Before the advent of the internet, technical analysis was a cumbersome process because it demanded constant monitoring of a stock's price and volume, as well as calculation of moving averages and other metrics. Historically, technical analysis was not available to the average investor. However, technical analysis has been reborn due to automatic calculation of stock charts, multiple moving averages, instant calculation of even the most complex formulas, and-most important of all-simple and inexpensive access to streaming quotes.

All of these metrics are essential for technical analysis, and the good news is that today even an amateur technician has a stream of data that would make the best-heeled technician of just 25 years ago green with envy. If you have a personal computer and an internet connection, everything you need to perform technical analysis is at your fingertips.

Many technical analysts, known as technicians, believe that price and volume are the whole story, that tracking price action anticipates and foretells the next price direction. There is a degree of truth to this belief, and I urge everyone to employ technical indicators.

But technical analysis can become a self-fulfilling prophecy, with every trader examining the same charts, looking at the same movements and trends, and making the same trades as a result. This is the case now more than ever, with increasingly popular program trading by institutional investors.

So rather than using technical analysis exclusively, it's important to realize that a combination of fundamental and technical tests makes the most sense and yields the best returns.

Even if you are dedicated to the study of the fundamentals, a range of technical indicators is valuable. These indicators serve as a means for quantifying market risk, confirming what the fundamentals reveal, and signaling a change in the current trend.

For the uninitiated, technical analysis seems to be more like magic than a useful system of patterns, trends and charting methods. Neophyte investors tend to associate technical investment philosophy with high-flying, risk-taking day-traders - making huge profits on tiny market fluctuations - and sometimes losing it all when a trade goes the wrong way.

While that's certainly true for a small segment of technicians, the truth is that basic technical analysis has a part in anyone's investment strategy - even long-term buy-and-hold types can benefit. After all, the difference between a successful investor and an unsuccessful one is sometimes just a few percentage points.

Some of you may disagree. All you hear from the buy-and-hold crowd is to simply buy, forget, and wait for big returns to accumulate. That trying to second guess, or time the market, is a fool's game. Many mutual fund managers wouldn't be doing their job if they didn't tell 401(k) investors to simply pile a chunk of their paycheck into their fund every month.

They don't want you to realize that they are not necessary.

Technical analysis simply says, "The stock market isn't random. It behaves in very predictable patterns - documented by trillions of transactions over a period of more than 100 years."

There are plenty of big-picture technical indicators that can help people decide when they should throw more money (or less) into a mutual fund.

So, technicians spend their time looking for these well-worn ruts of market habit. When you invest with a trend that's happened thousands or millions of times before, you can certainly go wrong - but you increase your odds of success.

We'll tackle some of these technical aspects tomorrow. For now, just open you mind to the possible benefits.



The views and opinions expressed herein are the views and opinions of the author and do not necessarily reflect those of The NASDAQ OMX Group, Inc.



This article appears in: Investing , Stocks

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