In this series of blog posts titled “The Goal,” motivated by a book of the same title, we have been talking about how traders can sometimes lose the big picture. We have looked at the downfalls of trying to live up to labels or “putting ourselves in a box.” In the last post we talked about how assuming the label of “automated trader” and treating it as your identity can have downfalls. Today I would like to talk about Technical Analysis vs Fundamentals. If you’ve been trading for any period of time, you’ve probably been asked how much of your trading is based on Technical Analysis and how much is based on Fundamentals. This is not a bad question, in fact it is a question that we should occasionally ask ourselves. However, the potential danger arises when we make a claim and then require ourselves to live up to it. For example, lets flashback to June 22, 2016 and let’s say you claim that your trading is based 100% on technical analysis and you are currently long the GBP. You then learn from reliable sources that there is a referendum in the UK tomorrow that is not expected to pass but if it does, it could have a huge impact on the GBP. You tell yourself, I am a Technical Trader, I don’t consider financial news in my trading and keep your long position on the GBP. Looking back now, we know that the initial Brexit referendum and crash of the GBP happened on June 23, 2016. While it may be debatable whether holding the long position would have been the right or wrong thing to do based on the information available at the time, what is not debatable is that the GBP did in fact crash the next day. What is also not debatable is the fact that you had some information telling you it was a possibility. I am not trying to argue that we should change our trading plans on every bit of financial news. This was an extreme example but my point is that there was information available that could have been helpful. As I discussed in my previous post on the 50/50/90 rule, trading is hard and our odds of random success are not 50%, they are much lower than that. We need to take any edge we can get to tip the scales in our favor. Are you familiar with the Efficient Market Hypothesis (EMH)? Per Investopedia:
The Efficient Market Hypothesis, or EMH, is an investment theory whereby share prices reflect all information and consistent alpha generation is impossible. Theoretically, neither technical nor fundamental analysis can produce risk-adjusted excess returns, or alpha, consistently and only inside information can result in outsized risk-adjusted returns. (https://www.investopedia.com/terms/e/efficientmarkethypothesis.asp)
To paraphrase the EMH, it basically says that it is impossible to consistently beat the market unless you cheat. Hopefully as a trader, you do not 100% accept the EMH. If you did, you probably wouldn’t be a trader. However, just because we reject it as an absolute truth, does not mean that we can’t learn from it. There are a lot of smart and credible individuals who truly believe in the EMH and if they are right, then we are bound for failure. The take away is that trading is hard, damn hard! If we expect to be winners we have to use every edge we can get. Therefore it would be foolish to reject information received from financial fundamentals on the basis of being a “Technical Trader” or to reject information gleaned from technical analysis because we consider ourselves to be a “Fundamentals Trader.” The key to beating the market is finding that “edge” that puts us at that point where our win rate and risk/reward ratio is such that our account size will continue to grow at a rate greater than if we had just invested it in an S&P index fund or other financial instrument. So where does your edge come from? If you respond to this question with a short one-word answer, then you may be putting yourself in a box and missing the big picture or focused too much on the process and not on THE GOAL. Remember, the goal is not to be the best trader or have the best system, THE GOAL is to MAKE MONEY! Do not limit the tools that you use when striving towards THE GOAL!
Now let me interject a bit of reality. Nobody is an expert on everything. I have once heard it said that “someone who is an expert on everything is really an expert on nothing.” I am by no means suggesting technical traders go out and become experts in fundamentals and vice versa. By all means focus on what you do well and what you enjoy but never discount an opportunity because of a label you have assumed. Remember, trading is hard and we need to put everything we can in gaining that edge, tipping the scales enough to make our accounts grow.