Thursday, October 16, 2008

Value investing versus technical trading

Some time back there have been some debate on other blogs about whether value investing works better, or technical trading works better or turtle style works better or whatever. It is very logical to think that technicians detest value investors and vice versa. Bcos their investment philosophy is completely different.

One buys stocks that are mundane, cheap, stable earnings based on fundamental analysis. One buys based on short term newsflow, charts, momentum etc. It is very tempting to think that these different investors fight a lot. Like Cats versus Dogs, Chu vs Han kingdom, Man U vs Liverpool etc.

To summarize the styles a bit, they probably look like the following:

Champion style: Buy low sell high - sure win one!
Short selling: Sell high buy low - sure win too!
Value investing: Buy low, sell lower
Technical trading: Buy high target sell higher but usually sell low

Ok, just a joke. This is not your Wikipedia definition of the different styles. And also styles do not dictate whether you can win in this game. No matter which style you use, more than 80% of all investors underperform the markets and most retail investors don't even have positive gain to talk about.

At this point, I would like to draw an analogy to pop music.

There are many styles a pop artist can follow:
A-Mei: strong voice, dance a lot, bold and catchy tunes
Yanzi: R&B music, sweet young thing look
Morning Girls: Act cute, kiddy songs etc

There are basic guidelines to be trained to perform in different styles. Eg. For A-Mei style, vocal singing training, dance training, music and song writing training and probably a lot of real life experience in pub performing etc. For Morning Girls, no need vocals or song writing, just act cute.

Styles do not dictate whether you can sell double platinum albums. Some styles have better chances, some don't. Artists from different styles do not necessary hate one another and fight all the time. They respect one another's talent and attempt to bring better music to their audience, if anything. (Well sometimes they do fight, but not a whole lot :)

Value investing is just a style. One that some people believe and I believe has a better chance to make money. Just a slight advantage. But you can make it big with other styles too. Bernard Baruch is a multi-millionaire trader. Jim Rogers, George Soros bet on global macro trends. Jesse Livermore reads the tape. Peter Lynch, value and growth at reasonable price.

There are a few guidelines/basics on how to do value investing, eg. buy with margin of safety, don't time the market, look for co.s with stable earnings etc. However it doesn't mean that if you know all these, you will make money. In fact if you follow them strictly by the textbook, it is not going to work.

It is the same with technical trading, global macro betting, turtle style, tape reading etc. There are the basics, you learn them. Doesn't mean that you follow them strictly, you will make money. It takes a lot of effort, time, and usually luck as well for all styles.

And it doesn't help anyone to criticize other's style. Some people are good at certain styles. Some are good at others. More than 80% of all investors fail to beat market returns, regardless of which style they use. All styles can make money if you develop the flair, find out what ticks.

Ultimately investing to make money is an art, and in this aspect, investors are also like pop artists, most will falter, some spent their lives singing only in pubs, a small % can make a decent living as an artist and only a handful sells double platinum albums. If we put in decent amount of effort in developing a good investment philosophy and style, I would like to believe that we will be rewarded. May not beat the market, but it should be a positive return and add good incremental cashflow to our household income.
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