Fundamental investing vs Technical investing

The question as to whether Fundamental or Technical is the right approach to investing is as old as the hills with there being no clear answer on which is better ideology to follow. I have blogged multiple times on how random portfolio’s have worked wonders as well and given the laziness of the approach, it makes one wonder whether we are fooling ourselves trying to find the holy grail of strategies when in the long run, just disciplined investing should be good enough. Or maybe, its just that we cannot accept that simple strategies can work and hence the constant need to search for a complex / sophisticated one.

Dr.Vijay Malik is a well known investor / commentator in the fundamental analysis circle who today re-plugged a article comparing his journey which started with technical analysis but how he found it inferior after finding fundamental analysis.

Dr. Malik concludes the article (Why I Left Technical Analysis And Never Returned To It!) by way of 4 bullet pointed answers to why Fundamental Analysis is superior to Technical Analysis.

Before I argue my take on those 4 points, I do think that technical analysis has acquired a name as a vodoo science thanks in no less part to some of its well known practitioners. Switch on the business channels on any trading day and you will guaranteed to be given hundreds of tips of what to buy / sell – everything accompanied by a story and a chart. Most of the advises are for the extreme short term (hours literally) making it feel that maybe a chart has no use for the investor who is prepared to wait for the long haul.

Advisory / Education is a big industry and for most of them, technical analysis fits their needs perfectly. Like the Instant Lottery, they are willing to sell their wares with results being instantaneous and the crowd loves them for it. Given the fact that I neither run a advisory service nor try to educate investors for a fee, I do wonder what is the point in defending technical analysis given that I know it works for me.

But I am digressing. The point of this post was to showcase a alternative perspective on the questions raised as to why TA is inferior, so lets move ahead on that. (Dr. Vijay Malik’s quotes are in Italic / Red)

Technical analysis keeps an investor on a treadmill. You can never relax. Carrying open positions requires guts. No one knows how markets are going to open up or end at any day. Fundamental investors sleep peacefully at night. 

There is honestly no difference when you carry positions over-night for risk remains the same. Neither a fundamental nor a technical investor knows how the market will open or close. The only difference is that most of the time, a technical investor has a plan laid out on what he shall do in case of stock moving higher and what he shall do if a stock moves lower. Of course, if he like me is a Systematic trader / investor, even that decision making process is outsourced.

It doesn’t matter what methodology you chose, if you don’t have a plan and have made too big a bet, you will end up losing sleep. I am sure that neither Sequoia Bill Ackman are investors who look at chart to take decisions, but these days, VRX is keeping them awake.

In my own journey, I remember the days when I used to sit and watch Dow till it closes and sleep worrying about how that will impact my position the coming day. But moving to systematic trading has removed those worries and made trading (even when markets are not trading in my favor) much more simpler.

Technical analysts rarely capitalize on big moves. There is so much noise in indicators, everyone giving either buy or sell signal all the time. In fundamental investing, you buy once and sit tight. It lets the large gains come to you. I feel safe to say that an investor nibbles in technical analysis whereas she grabs a big bite in fundamental analysis.

To me, the question is not whether you are capturing a 100 point move or a 1000 point move since the bigger difference will come from how much you are betting. A 1% allocation to a 100% mover is same as a 10% allocation to a 10% move.

When using charts, using long term signals eliminates the issue of not being able to capture the bigger moves while at the same time providing timely exit. Rather than just talk theoretically, lets use a recent example: Page Industries.

If you used a simple 200 day EMA, you would have garnered 10,497 points from 2008 till date while being exposed to markets for only 76% of the time. Of course, you will argue that I am falling prey to Selection Bias and I accept. my point really was to show that if you have selected a stock and are concerned about missing the meat of the move, you may want to be relieved to know that you can participate on the big moves.

In technical investing you need to get most of your decision right (>50%) before you make some money. Significant money is required to cover cost of live data feed, brokerages and losses of wrong trades. In fundamental investing even 10 stocks chosen well over one’s lifetime can make one millionaire. Warren Buffett is a live example. He found Coca Cola, Gillette, Wells Fargo, Washington Post and stayed invested with them. 

Once again, the question is not about your success ratio, but about how much you make when you win and how much you lose when you take a hit. The trading system which I use on my own funds for example has a Win:Loss record of 40:60. But since my winners make more that twice on what is lost by losing trades, it makes up and then more.

Yes, trading is expensive but unless you are trading intra-day, costs are much lower and in these days of low brokerage, brokerage is not a major factor anymore. But I agree, if you can select 10 stocks that you think will do big on the long term and then bet big on them, you would not need to go through the gruel of trading. As I have written earlier, I was lucky to buy into at least three 100 baggers (one of which I still hold). But since I did not bet big, despite having those winners, I still am way short of fulfilling any of my financial goals. But if you think, you can identify the next big thing and willing to be big, Good Luck.

Technical analysis is more time consuming. An investor has to continuously keep updating the charts and analyzing new patterns, which keep on appearing, whereas in fundamental analysis, once a quarter reviews seem sufficient.

Once again, the key is that it all depends on what kind of time frame you chose. The longer the time frame, the lower the requirement to look at charts on a regular basis. Also fundamental analysis is not about just relaxing after buying a stock. Both analysis requires constant and continued efforts and if you aren’t prepared to put those efforts, its way better to invest in a Mutual Fund / ETF and hope that the manager does better than you.

I am biased towards Technical Analysis since it has provided my bread and butter for long. So, take my above view with a bag of Salt. What works for me doesn’t necessarily mean it shall work for you.