When value investing meets technical analysis
Value investing and technical analysis are the two schools of thought that dominate the investment world. The former emphasises fundamentals while the latter focuses on technical trends. Which one is better? No single approach can be right all the time. But both investment strategies can thrive if implemented effectively.
The concept of value investing can be traced back to the 1934 investment classic Security Analysis, written by Benjamin Graham and David Dodd. The investment principles followed by value investors are rather simple: buy when the price of a stock is below its intrinsic value (the value it should be assigned). They believe that the intrinsic value of a stock can be realised in the future, and when prices return to a reasonable level, they will start searching for other opportunities.
Value investors are driven by a simple rule: be greedy when others are fearful, and fearful when others are greedy. The saying means that the market is often biased due to irrational emotions in the short term. When the market is overwhelmed with fear, value investors take advantage of the irrational sentiment and invest in assets with sound fundamentals. This approach can help capture superior profit potential in the longer term. Warren Buffett is a prominent advocate of value investing. By adhering to value investing principles, he has become a famous tycoon.
Value investors emphasise fundamental factors, including earnings, dividends, book values and cash flow. Their goal is to uncover attractively valued investment opportunities by looking at these factors.
Value investors focus on the intrinsic value of assets (such as stocks). They tend to buy when the market is fiercely selling. Therefore, they are sometimes referred to as "contrarian investors". In contrast, investors who base their decisions on technical analysis believe that any investment actions should be aligned with market trends.
Technical analysts think that investors' emotions driving the market in the short-term tend to manifest in certain shapes or patterns in charts. By distilling the meanings of these shapes and patterns, one can be a step ahead of the rest to grasp the market's near-term movement.
As the popular Chinese saying goes: "it is smarter to ride on trends". Technical investors focus their attention solely on technical trends. Fundamental factors are largely irrelevant to them. They focus on technical signals sent out by technical indicators such as the crossing of moving averages, the Relative Strength Index (RSI) and charted patterns (such as heads and shoulders, etc).
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