11. November 2017
No 4 in the five most asked questions
The no. 4 question
What are the most frequently asked questions about Technical Analysis? I’ll give you the top 5 question I get during my speeches and courses on technical and fundamental analysis. I have already gone through question no. 5 so here goes no. 4:
Question no. 4: “What effect will XYZ (Brexit, the US election or any other kind of upcoming hot topic) have on the market? How do you factor political decision into the forecast?
This is actually a very, very good and legitimate question. And a surprisingly big number of people have that question. And it is understandable because they have never gotten a satisfactory answer before, and that is why they are still puzzled. So now they ask the same question to me. And it is a good question that deserves a proper answer. So it’s high time we set the whole thing straight. I’ll spill the beans and finally give an answer that makes sense. The answer may be different than what you expect, but so are all explorations and findings, so this is my genuine view and answer.
The question is “What effect will XYZ have on the market?” It is important to understand that this question is based on the wrong assumption - which is very fortunate for us all. The question has an underlying assumption that we are building a staircase in order to get up to the next floor, into the future that we are trying to forecast. Every step is an event we have to forecast. So in order to get up to the 2nd floor (a year into the future) we should then be able to forecast each step. It sounds logical. You forecast the demand, you forecast the outcome of the political decision and the Brexit and the election and you forecast what speculators will do and you forecast what the USD will do, and you forecast how earnings will turn out and and and and. Wow. So you have to get EVERY one of these things right before you can make a forecast, correct? And with all of these bricks you can then build a staircase up to the next floor. But if just one of the bricks are wrong (if we forecast a wrong outcome on Brexit or some other thing) then there’s a step missing and the whole staircase becomes unstable and ultimately collapses.
So how can we ever get up to the next floor? How can we ever arrive at a sound forecast? You see the basic assumption here? If we had to get all these things right, then we would never be able to forecast anything. Even if you were superhuman and got 950 of a 1000 factors right, then there would still be 50 factors you misjudged. 50 steps missing would seriously undermine the stability of the staircase. According to this, forecasting is impossible. Can’t be done! Fortunately this underlying assumption is wrong.
So how can we then forecast?
I will give you the fundamental answer (because the technical analysis answer is too provocative: “We don’t need any of these nonsense fundamentals - like Brexit or anything else - to make a good and solid forecast”). So the fundamental answer has a keyword of: Lava
Allow me a metaphor. Lava flows down the mountain and you can see where it comes from and you know the trajectory. So it’s not that hard to “sort of guess” where it will flow into the future (“downward”). You know how gravity works and you can calculate the mass of the lava stream and you have a map of the mountain with its slope and geometry. A lot of factors influence the flow of this 20 meter wide lava stream, but in the end we know that "stuff flows downward" so it's really not that hard. There’s a lot of mass in that stream, so it is pretty basic science.
Let’s say someone just surprised us by putting a big rock a few metres in front of the lava path (an unexpected Brexit or some other thing we didn’t foresee). Well, it would certainly affect the flow somewhat. The lava would meet the rock (and we didn’t expect the rock to be there). The flow would then stop momentarily and pool there for a moment and then flow around the obstacle and continue its path. I’m not saying that the rock won’t affect the lava flow. I’m just saying that the rock will not make the lava flow wince and pick up its skirts and run uphill to momma. The rock is unexpected, yes, but it is just one factor in a big pile of things. And the rock is quite small in comparison to the much more important force of gravity and the mass of the lava flow. You are simply mistaking Brexit for being something big, whereas it is just a rock. The rock may be the size of a football or it may be the size of a tractor. It really doesn’t matter when it’s in the path of a thundering river of lava and the force of gravity. So the answer to Question no 4 has two angles:
1. On one hand you focus too much on the rock, and you usually overestimate the size of it.
2. On the other hand you completely overlook gravity and mass, and you hugely underestimate the power of this.
So basically we need to get our science in order and understand the scale of things. So with the rock placed in front of the lava flow we are dealing with a pause in the lava flow. So the real answer to your questions is that the rock introduces a slight disturbance and alteration in the flow, but that there are way bigger things that the rock.
So that’s my take on Question 4. Study lava flow. Study gravity.
Oh, and your next question is "What are the other questions in the top 5??” The question I get the most are:
1. “How accurate are your forecasts?”
2. “Should I buy now?”
3. “What if Technical and Fundamental analysis disagree?”
4. “What effect will XYZ (Brexit, the US election, any kind of upcoming hot topic) have on the market?”
5. "Where can I see the future price movement?"
What is your deepest question?