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Technical Analysis
Why is it important?

Benjamin Graham said the following:
"The one principal that applies to nearly all these so-called "technical approaches" is that one should buy because a stock or the market has gone up and one should sell because it has declined. This is the exact opposite of sound business sense everywhere else, and it is most unlikely that it can lead to lasting success in Wall Street. In our own stock-market experience and observation, extending over 50 years, we have not known a single person who has consistently or lastingly made money by thus "following the market." We do not hesitate to declare that this approach is as fallacious as it is popular".

What I find most disturbing is how inconclusive technical analysis is, and how much variation there is in analysts' opinions. Visit any technical analysis message board, and you will find heated conversations usually revolving around "support and resistance levels".  And, I am not referring to investors who are new to technical analysis, I am referring to extremely experienced and well known technical analysts.  

For the average investor, it is often a difficult dilemma to try and make sense out of the conflicting opinions regarding where the market is going. Is the market cheap or is it expensive? Is the market going up or down?  Does the market have support at these levels or is it ripe for a fall?  If you are confused about the direction of the market, you are not alone.  It seems the pros are often just as confused as you are.

Now, I do not want you to form an opinion that I do not believe in technical analysis, in fact; if anything, I am a firm believer that one must respect the fact that millions of investors and professional money managers follow technical analysis. So, for anyone to ignore technical analysis, even though it has serious limitations, is a huge mistake.

 

Example: In a down market, a technical analyst looking at the SPX chart below will point out that the market has major support level at 975 as tested on August 2003. 

If the SPX support had not held at the 975 level, this very same Analyst would likely have pointed out the two year support level of 775 reached on October 2002 as the next most logical support level.  

Most inexperienced investors will view the concept of changed support targets as a case of an Analyst not knowing his craft. The reality is that no one really knows for certain, and choosing the next level of lower lows reached in previous support levels is an acceptable practice in the field of technical analysis. 

While technical analysis is far from perfect, one must always respect the fact that far too many investors and money managers follow it. So, when a predetermined support level does not hold, and thousands of investors and money managers see the next support level, it often becomes a self fulfilling prophecy.

 

There are many additional concepts and indicators in technical analysis that are well worth investigating. However, if you, like most investors are looking at technical analysis to tell you the absolute support and resistance levels, be prepared to be seriously disappointed. For many years, the search for Support has occupied the minds of thousands of investors and researchers. Support as most investors view it is a fallacy.  Support is only a temporary stop that can be mathematically calculated. To think that there is such a thing as long term support is as naive as the belief that a company will always deliver on its projected earnings.

Technical analysis, while very useful as a short term "snap shot" type analysis, is a very limited science.  By the time you get a buy or sell signal, the move is usually about 20-30% underway.  I, myself, found the process of picking stocks through traditional Technical Analysis very limiting, and most importantly, difficult to rely on. Being a mathematically oriented and structured type investor, I needed more stability and more proof in order to invest my hard earned money. Quite frankly, technical analysis has never showed me such proof, and today I am more convinced than ever.  Technical Analysis is simply a self fulfilling mechanism. Nothing else, nothing more.

In my 16 years of research I have combined 3 concepts from traditional Technical Analysis, which I have found to be the most sensible:  the Moving Average, the Trading Bands, and the RSI. From these 3 indicators I have created GetFolio.com Investment Strategy, combining technical, fundamental, Sector timing, and most importantly risk/reward analysis, all into what I and many others consider to be the most logical system ever put together. 

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