Friday, December 17, 2010

Why do people use charts to forecast future prices?

Think about the concept for 1 second please. A person pulls up a stock chart and attempts to predict a future price increase or decrease based on the history of a stock chart. It blows my mind that wall street has brainwashed the masses to believe that this is a viable form of investing. Every online-broker you can think of from TD Ameritrade to Charles Schwab to Fidelity all now sell the tools and charts that will so called make you a better trader. If this isn't the biggest scam going on in the trading world then I don't know what is. I think people forgot what a stock truly is. I also think people have this idea that a high or low price graphed out on a chart, has any relative value to whats happening to the inner workings of  a company. Maybe if I explain this a little you guys will wake up.

I was once in that same boat of thinking in my earlier immature days of playing in the stock market. I heard about this strategy in which if you study the history of a stock chart, it'll enable you to forecast whats going to happen next using an array of tools such as indicators and chart patterns. I began to pick up books written by so-called professional traders. What I failed to realize was that these same traders made a lot of money in a certain time period, mostly due to luck and a winning streak that lasted longer than it should have.  They cashed in their chips after having a bad run thereafter and when they found out that their system was failing to work any longer they wrote about it so they can cash in on those who were less fortunate or unlucky as I'll call them. I found out after many years that it didn't matter how many chart patterns or indicators you combined and used, all systems have a success rate of no more than 50%. Making your decision on whether to buy or sell was better at a coin flip. It was after 7 years of developing system after system and back testing each theory that I found out what seemed like a 90% win ratio in the past turned out to fail me many times in the future. Why this happens I'm not quite sure, but what I do know for sure is that by the time you figure out a winning strategy it will almost no doubtedly stop working.  

Stocks move based on 3 concepts which are all grounded in psychology. 1 is news whether expected or unexpected. 2 the anticipation of future growth or lack thereof. And 3 on manipulation by the big firms controlling the outstanding shares. The fact that people are brainwashed into believing that a stock is going to go up or down based on some chart pattern or indicator developed by some crazy mathematicians who thinks the market is comprised of some formula is missing the essence of all decision making and in the case of the market, decision making is a speculative process.  A chart is nothing but an outdated road map. When you look at the history of companies stock price, what happened in the past is only as foretelling as the red and black that show up at a casino's roulette table. Everyone who's played roulette will tell you that the history of colors doesn't mean a damn thing. But surprisingly enough some people will play roulette and win over a controlled period of time using some type of system and the same goes for some stock traders using charts. That doesn't mean the person has figured it out because like all traders find out in time, what works in the past will cease to work since all systems are flawed by nature because the people who create them (humans) are ever evolving and changing. So if humans change, then so does their decision making process. By nature that makes any mathematical system a failure, because unlike math, nature has never stayed the same.

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