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5, 10, 15, ___
2, 4, 16, ____
1, 1, 2, 3, 5, ____
(Answers 20, 256 (16 squared), 8. If the last one is giving you trouble, the pattern is that each number is the sum of the previous two numbers. It's called a Fibonacci series and turns up in a surprising number of natural and unnatural systems.)
This drive to seek patterns is so strong, that we (meaning man as a species) will find patterns that aren't really there or ascribe meanings to patterns that are far beyond reason. I think that tendency explains much of technical analysis (TA). Technical analysts, sometimes known as chartists, believe that everything you need to know about a stock is contained in its recent price history. They study the line formed by graphic daily closing prices and attempt to predict where the price will go next based on that line.
I've no doubt that there is something to technical analysis. The patterns may very well reflect a kind of mass psychology -- sometimes. I just don't know very many people who can consistently beat the market with TA. (Actually I don't know any, but I'm allowing for the fact that I might know some, but not know that they are successful TA traders.)
Ever hear someone talk about "breaking through resistance," or "testing a bottom" or a "cup and handle" formation? That's TA. Some folks rely on it entirely, some use a bit of chart reading to help them decide on a buy or sell point. If it works for you, I've got no quarrel with it. I suspect that TA is something that can work reasonably well for those who are very skilled with it, but not everyone has the potential to develop such a skill.
Others around here who are less tolerant of TA have compared it to reading tea leaves. There may be something to that -- a good tea leaf reader (or palmist or fortune teller, etc.) can pick up enough clues about a person to give a surprisingly accurate reading. TA may be like that. Those who are skilled at it may really be skilled at absorbing news and judging public reaction. If you've ever tried to discern the patterns in real world stock prices (as opposed to the examples in the book) you may appreciate that a bit of clairvoyance is needed to see anything.
Still, that may only be my ignorance talking. I admit I have only studied TA enough to realize that I was not ever going to be one of the ones that was good at it. If you are interested in charting or want to figure out what those guys are talking about, one of the best books on fundamental investing also has an extensive section on charting. How to Make Money in Stocks: A Winning System in Good Times or Bad, by William O'Neil, is one of those books that anyone who wants to pick stocks on their own must read.
Meanwhile, I was wondering if a chartist could have foretold the Lucent <% if gsSubBrand = "aolsnapshot" then Response.Write("(NYSE: LU)") else Response.Write("(NYSE: LU)") end if %> disaster. Lucent was a Foolish Four stock for a while after it was spun off from AT&T, and the high-tech communications company has been a fantastic stock ever since. Until last week, that is, when an earnings warning sent the price down 20 points (28%) in one day. We Fools didn't come right out and say Lucent was heading for disaster on January 7th, of course, but when the Rule Maker portfolio looked at it last January, it found disturbing trends in its financial statements.
Today we have a special report on Lucent that discusses how you could have seen this one coming. It's not as cool as an Elliott Wave, but most people can follow along and figure this one out. If you're not into financial statements, you may find the report surprisingly easy to understand, and an intriguing introduction to the value of, at least occasionally, peeking at a quarterly report.
Tomorrow we'll look at a pattern that I expected to see repeated this year, but, boy, was I wrong!
Fool on and prosper!