Market Technicians (Speculators) vs Value Investors Explained

According to some of my readers, I’m apparently this wolf.

It’s all about rivalry…

There’s this never-ending game of tug-of-war going on in the investing world between the camps of technically analysis investing and fundamental analysis.

To hyperbolize, there are two types of investors.

One is a fundamentalist (value investor). He looks at company’s financials, reads shareholder letters, does in-depth analysis around sales numbers, earnings, and other types of financial projections. He decides whether a company is a good investment based upon the future perpetual earnings power and growth of a company.

The second is a technician (speculator). He might take a slice from the book of fundamental investors in deciding which companies he chooses to buy based on their volatility or stability. But he is more concerned about using charts and patterns of the stock price and possible trends to identify potential profit opportunities, than by conducting due diligence on a company’s financials.

To determine the biggest difference between the two types: If I can conflate a little, market fundamentalist investors’ strategies are useful for determining where (what market sector) and what (specific companies) to buy based on how that industry is performing or how they are responding to the overall economic environment. Students of technical analysis, on the other hand, do well at spotting the exact timing for when the buying is right.

Both Strategies Make You Money

Being a fundamental value investor treats you right. First, you learn how to really value a business and read financial reports. This often gives you the advantage of knowing how a company will perform if supply or demand in the market changes, and how that would affect a company’s bottom line, and hence its stock price and value. It also helps them see through accounting tomfoolery that makes a company appear more profitable than it might appear to the average investor, or a technician or speculator, who simply knows the company’s bottom line—its earnings—and trades off this alone.

Being a technician can also be lucrative however. Since technicians put so much effort into identifying trends and sentiment in order to know when things are about to turn, he goes in and out of trades a lot more, ideally selling when things are the highest and buying things when they are lowest. This means, he catches the gains on the way up, and avoids them on the way down. Under certain circumstances, he may out-profit the fundamentalist, who only collects profit when he sells, and the profit is simply dividends + price at point B – Price at point A.

Are there any drawbacks to picking one camp over the other? Certainly!

Fundamentalists may doubt a technician’s ability to time the market, so he ignores him. Instead, he simply buys when he feels the stock is cheap enough, and ignores things that cause shares to fluctuate rapidly, like earnings reports, press conferences, momentum indicators, overbought/oversold signals, and others things. As a result, he may get into an investment at the wrong time, and either lose out on gains by not getting in early enough, or might be too early buying, and sit on a loser until things recover.

Technicians are disadvantaged in the market due to their shortsightedness on the importance of understanding the underlying aspects of a business in the context of the economic cycle. By simply watching charts, they ignore market fundamentals which may cause an investment to go south on them. Also, technicians use a lot of charting patterns which are only effective a statistical percentage of the time. Oftentimes, these signals prove to be wrong, and technicians pay dearly for this.

Why is there such a rivalry? Can’t we all just get along?

It all comes down to outlook, time horizon, and hubris (arrogance) really. Fundamentalists generally have a much longer time frame for their investments. They may not manage their investments as actively, and the type of return they are looking for (dividends) may differ from technicians (capital gains or share appreciation).

Fundamental investors like to crucify technicians, mocking them by lumping them into the same category as crystal ball gazers, tea leaf lovers, and tarot card readers. They believe technicians are speculators, and cause undue swings in share prices. They don’t care much about price fluctuation, because they buy and hold things for long periods of time, and because they know the value of the underlying business and its potential.

Technicians think of value investors as old farts and boring, do-nothing investors. Are they right? Maybe. This is due to the modern perception that an investor is someone that sits at their computer and actively trades all day. Fundamentalists might miss out on gains, but technicians pay for their anxiety with sleepless nights, less days off, and the fact that trends they follow may be over-read, or might not play out as theorized.

Both Strategies Can Bite You in the Butt

One last point to consider in this lively discussion is the concept of market “misbehavior.”

Common sense would dictate that when bad news hits a company, its stock price should decline. Conversely, when good news comes out, prices should increase. But sometimes, the opposite ends up occurring very asymmetrically. This is called misbehavior.

As of this writing, the markets are sitting at all-time highs and are “misbehaving.” Because of the Fed’s promise to prop up any failure in the markets or the economy with increased quantitative easing measures, bad news for companies or even the economy often result in price increases, when in fact prices should be falling. Conversely, if companies are doing well, the Fed might stop pumping money into the economy, so things might cool off a bit.

It’s completely irrational. And it’s frustrating as hell for both the fundamental and technical investor. Nothing works like it should. All we know is that things are going up until the money printing ends.

The Fed recently shut off the faucet of quantitative easing. But it's done that before, and the chairman, Janet Yellen, has made it abundantly clear that nothing is off the table, including further accommodative measures.

But I’ve digressed.

Your best bet in choosing a camp is this… choose neither. Take the best of both worlds.

You know from the recommendations I make that nothing I do is cut and dry. I don’t stake out a claim on the value investor (fundamental) side and sit back completely mocking the technicians.

I believe a marriage of these two attracting opposites is the best way to craft a winning strategy. So, those of you out there who criticize some of my recommendations, or my investing philosophy, can sit on your opinions and re-evaluate why you think it is that I digress from my roots of value investing, into the occasional technical momentum strategy or options play.

It’s because there is a time and season for all types of investment. We do what we enjoy most. So don’t bother taking a side in this debate… there is no clear winner.

Live long and invest,

Jeremiah