In this section of our website we will provide educational content on technical analysis and how we use it daily to make investment decisions for our clients. But before doing so, we first need to establish a baseline understanding of how private wealth & retirement assets have historically been managed by the financial services industry.
Modern Portfolio Theory – Since the 1950s, Wall Street has propagated this approach to long term investing. Often called “set it and forget it” or “buy and hold” Modern Portfolio Theory advocates making long term investments in asset classes and securities based on an individual’s time horizon, desired market return, and risk tolerance. Once the portfolio is constructed, the investments are typically held for several years and rebalanced quarterly or annually.
Fundamental Analysis – Fundamental analysis focuses more so on macroeconomic factors that can affect a security’s value, including but not limited to company revenue growth, earnings per share, management structure, etc. It is traditionally used with portfolios that hold individual stocks.
Here is where they fall short:
Modern Portfolio Theory does not incorporate risk mitigation during down markets, and it often assumes unrealistic time horizons for the investor. For instance, the time frames applied typically assume the individual’s investment horizon is far longer than it actually is.
Fundamental Analysis assumes that investors and the stock market will always behave rationally and that stock price fluctuation can be attributed solely to industry fundamentals and economic conditions. That being said, there is often a disconnect between a company’s stock price and the strength of its underlying fundamentals.
While applying technical analysis, we don’t try to measure the security’s intrinsic value but rely more so on the simple concept of supply and demand when making investment decisions. In more detail, technical analysis evaluates securities by analyzing certain factors such as price trends, relative strength, and market breadth (the strength of a market rally or decline). Historical trends and patterns tend to repeat themselves. Technical Analysis assumes that many of the fundamental themes listed above are already reflected in the security’s price, and it removes any and all emotion from the investing process which is critical.
Not only do we use technical analysis to help our clients mitigate risk in market declines, but we also use it to identify strong up trends to participate in market growth. We often times raise cash during a stock market decline. Once the decline is over and we have determined the risk/reward relationship is back to appropriate levels, we reinvest the cash back into the market.