Thursday, May 21, 2015

Good letter writers write letters

"Market letters tend to lag behind the market since they generally respond to demand for news about recent activity. Although there are certainly important exceptions, letter writing is often a beginning job in the industry, and as such may be handled by inexperienced traders or non-traders. Good traders trade. Good letter writers write letters."

So said Ed Seykota famously in his Market Wizards interview.

Once in a while, I get chance to read some analyst or broker reports, be it relating to specific stocks, commodities or sectors, or general market conditions. How useful are these to a trader? How much reliance can you put on them?


Well, my own views towards these reports are best summed up in the following anecdote. There was a famous instance mentioned in one of the Market Wizards books where a trader commented on a piece of analysis written about a certain commodity (I think it was sugar). The trader was impressed with the piece, and asked the analyst how he knew so much about the commodity. The answer given? "I made it up".

My own view is that people who offer such reports or recommendations have to generate something for their clients to read. And obviously different brokers or analysts can come up with different opinions or recommendations on the same stock or commodity. 

They are also forced to come up with reasons or justifications as to why price may have moved, as well as predictions and reasons as to what will happen in the future. In some cases, it may be done to encourage people to trade or invest in certain stocks or commodities, and create commissions. 

Whatever, if you use fundamental analysis as part of your trading or investment approach, I would always treat what they say with a pinch of salt, and also do your own research, not only on what the analyst is saying, but also what ultimately determines whether you will make a profit or a loss - price and its movements.

Referring to Ed Seykota again, he talked about, after joining a brokerage at the start of his career, he was put in charge of the chicken and broiler markets. "I found it interesting that an entry level guy like me was immediately placed in charge of dispensing trading advice."

Suppose you receive an analyst report on a stock which is being enthusiastically recommended as a buy. Yet when you look at the chart, you can see that price is in a downtrend which is starting to gain traction. What do you do? It may be a recommendation based on offering good value when looking at the price to earnings ratio, for example. But that may become even better value in a few weeks time as the downtrend continues to accelerate...

"I once wrote an article recommending that traders stay away from the market for a while. Management censored that comment from the market letter - likely because it didn't promise to motivate much trading." - Ed Seykota

Have things changed since Seykota started out? Maybe. Maybe not.

With the advent of social media, online communities and bulletin boards, there are also lots of people who may be traders or investors expressing an opinion or recommendation about a stock. You may also read articles about a so-called 'hot tip'. Again, I would place very little (if any) reliance on what they say.

As a trend follower, price and its movement tells me everything I need to know to make a trading decision. As far as I'm concerned, everything else is just noise.  

I know a few people who have had the misfortune to place reliance on analysts or brokers, or even other trader or investor recommendations, and have lost a lot of money as a result. More often than not, it has been as a result of buying a stock where price was trending downwards, and the reason for that price move was not yet public knowledge. 

Had they at least married up the fundamental arguments to what price was showing them, and waited for price to start confirming what the analyst was saying, then they would have saved themselves a lot of pain and stress - and avoided those big losses.

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