Taking Warren Buffet To The Charts
One of the difficulties that new or recent entrants to technical analysis have is the comparison with fundamental analysis. This is natural because the latter is so widely prevalent and used by almost all the sections of the market that it is difficult to ignore its presence. Add to the fact that almost all the icons of the market (thru time) have all been of the fundamental persuasion. This makes it the dominant form of analysis in the minds of most people. Its sheer visibility gives it the kind of credence (never mind the efficacy) that people pursuing anything else find difficult to battle.
I don’t suffer from such a malady because I have looked long and hard at both TA and FA and have chosen my way of dealing with both in a way that makes it a positive experience. I have found ways to enable one by the other and this has worked out rather well and it also forms the basis of my fund management work. Purists may disagree but hey, it is a free world and each of us can do what we choose to! You need to walk with me only if you find my philosophy interesting or agreeable. Else, there are so many other paths out there for you to follow! You can contest, argue, show me different facets etc. and I am happy to debate you as well as retain the open mindedness to change.
But, getting back to the point that I was making at the start- of TAs facing this dilemma of comparison and not knowing how to deal with it- I thought one of the ways to address it would be to take the words of the biggest icon of them all – Warren Buffet (WB) – and see whether there can be parallels for what he says in TA. So here goes a small attempt to do just that.
In his famous letters, WB has listed some criteria for investment. These are:
• one that we can understand,
• with favorable long-term prospects,
• operated by honest and competent people, and
• available at a very attractive price.
So lets see if we can work up some TA equivalents for the same.
One that we can understand: Here WB is talking about the business. In TA we only have the chart. So, question is, do we understand the chart? Generally, many newbie TAs contend themselves by looking at just a single time frame. While that does give you some information, what it will not give you is perspective. To understand something we need to be able to see it from different angles. Such different views can be obtained thru looking at the stock from multiple time frames. Start with the current (using Daily) and then move up to progressively higher time frames. Each of them will present you with a different view of the stock, mainly owing to the larger, longer cycles that are being dealt with as you increase Time. Understanding chart set up across different time frames requires one to be able to read the Consistency of technical signals thru the different charts of the same stock. Each of the charts (of different time frames) will also create a Context of its own and one of the cardinal rules of TA is that signals function in the context they are created in. Once you are able to do this, you will, to a good extend, ‘understand’ the stock.
Favorable long term prospects: It is fairly evident that one cannot create big positions unless one is sufficiently clear about long term prospects. This point is exactly the same whether one is using TA or FA. It speaks about the long term Trend of the stock. Here TAs have an advantage. They are using tools that not only forecast the possibilities for the future but also have the tools that help to track the trend on an active basis. The word active can be defined by the user and can extend from minutes to months! FA lacks the ability to do this as one is (largely) dependent on the information declared by the company from time to time (such as quarterly numbers etc). The key element here is of course being able to forge together the different technical tools and their signals, across multiple time frames, to create a plausible scenario for the future. And then to track that scenario closely. Realize that when you are talking of prospects into the future you are essentially forecasting. And that is a probability game no matter what form of analysis you are using. So everyone is on the same footing here! The differentiator is how well you are able to put together the variables in the present to create a cogent scenario for the future. Here, I believe, TAs have the edge because they are able to track their forecast a lot closer. The danger is that one may get digressed by short term noise (which is always there) and hence the analyst needs to be vigilant about not being led astray by noise.
Operated by honest and competent people: This is one of those tricky items about management. This is just an assessment of the individual(s) by individuals. There is no science in this. Our market history is not chequered in this matter. No one trusted Dhirubhai Ambani when he came with the IPO of Reliance in 1977. But now he is an icon forever! Everyone trusted Ramlinga Raju of Satyam until he turned out to be a fraud. More recently cases of Nirav Modi, who was thought of as the new icon of the diamond business, have been brought to light leaving us wondering whom to trust. Infy management is all over the place in recent years, trying to get their act together. The stock price reflects what the market knows about the management actions. A close watch on the price action tells us whether the market buys the management talk or not. Rest is all guesswork for everyone. So, the point regarding honesty and competence is more a desire or a wish from WB rather than a concrete fact that can be structured as per rules.
Available at an attractive price: Everyone has his or her own idea of what can be considered ‘attractive’. So it is a relative term. FA has its own way of assessing what is an attractive price. Similarly, we can estimate thru TA as well what ‘ attractive price’ is. The two may vary in the definition but ultimately, when something is subjective or relative, there is no definite yardstick that can be held against it and no one can sit in on judgement of whether that estimate of attractiveness is correct or not. Using TA technics of well defined supports and clusters, the situation relating to volume patterns, the momentum set up, the Time analysis using cycles etc, coupled with price action thru multiple time frames, TA can do a fairly good job of defining an attractive price.
So there you have it. My version of the TA equivalent of the basic principles underlying investing according the biggest icon of fundamental investing. Reading thru some of the lines that I have written above will also reveal to the newbie TA of the kind of work that is needed to achieve the four steps. We cannot shirk the work. WB never said that the four step process is a zip, to be done in one afternoon’s work! Each of those steps requires detailed application and whether you do it thru FA or TA, the effort required is considerable. More often than not, the failure happens here. However, for those who can make that effort and do so with some clarity of purpose, the differences between FA and TA shall begin to fade and finally, not exist at all.