How savvy investors use charts to zero in on fundamentals
AVNER MANDELMAN Saturday, January 27, 2007
Since this column began, I have been recommending that you do more personal due diligence of the companies whose stock you consider. Go out there and sleuth, I said, and you can outperform those who stay at home and rely on the Internet and charts.
That long-ago mention of charts brought a small flurry of e-mails from those who swear by them. One or two even claimed that price charts tell them everything they need to know. "Don't you ever look at charts?" one e-mailer asked.
Well, I do. But not for reasons you might think. Let me give you a few cases, then why it's relevant now.
Years ago, I had travelled to New York to listen to superinvestor Jim Rogers speaking to a class of budding graduate student investors at Columbia University. In that class, Mr. Rogers spoke about sugar. Even though I didn't invest in commodities, the points he made were good for stocks as well, and so they bear repeating.
When he started to invest, Mr. Rogers said, he looked for commodity charts going back 100 years and more, perused them, and marked the bull and bear markets. Then he dug out the history books to see what events that took place at those periods could have influenced supply and demand. That, Mr. Rogers said, is the legitimate way to use charts. Not as a magic trigger that tells you to buy flying-saucer bottoms or sell head-and-shoulder-blades tops, but as a pointer to past fundamentals that may recur today.
For example, in the case of sugar, Mr. Rogers found that nearly every time there was a sizable war, sugar went up. Was it because the population indulged in comfort food to forget the misery? Or did the army buy sugar in bulk for the fighting men's tea (then) or Coke (now)? Hard to say, but the historical fact is clear: In most times of national conflict, sugar's price rose.
So, if you are a commodity trader, this is a powerful fact to keep at the back of your mind, because if you think a current war may last, you would be favourably inclined toward sugar. If you think peace is at hand, you may want to sell it.
Mr. Rogers' use of charts as a pointer to fundamentals was no an aberration on the part of an honest value investor. None other than Warren Buffett did something similar. In a Fortune magazine article from November, 1999, he gently mocked those who forecast the economy in order to forecast the stock market.
The assumption that a good economy brings a rising stock market was bogus, the Sage of Omaha said. Just look at the evidence. Mr. Buffett pointed to two 10-year periods, one with low economic growth, and yet enjoying a wonderful rising market, the other with high economic growth but a stagnant market. The charts were clear. (So what did help markets rise? Why, the Sage said, you must start with cheap valuations and high interest rates, and see rates come down. Then you buy stock by stock-- fundamentally.)
Whereas Mr. Rogers used very long-term charts and data to learn about a commodity's supply-demand fundamentals, and Mr. Buffett used them to make conclusions about the market-economy connection, such tools can also be used for individual stocks. Here are two examples: One from the past, one from the present.
When I was a research director, a mining analyst once forecast that Inco (which was still independent then) would lose a ton of money. Such a loss, he said, only happened three times before in the company's history -- here are the dates. It's such a historic disaster, the analyst said, we must slap a "sell" on the stock.
However, taking a page from Mr. Rogers' book, I asked the analyst to bring me a 40-year stock chart of Inco, then mark the points where those historical losses occurred. As you probably guessed, these proved to have been the best buy points. Please note, the chart was not used to show a "buy" because of moving averages or what have you. It simply showed that a company that survived more than 40 years, and had a reasonable chance to go on surviving, was one you bought when things looked grimmest, because that's when everyone else ran away from the stock the fastest.
Indeed, as every long-term chart would show you, the best times to buy in cyclical industries are when things look most awful. For example, oil and gas, when the Economist had a cover declaring: "The world is awash with oil"; mines, when metal prices sank below production costs; or microchip machinery makers, when such companies lost money in fistfuls and couldn't fill their plants.
That last one in particular is an exercise we have done in Giraffe long ago. We can show that "sell" points for microchip machinery makers coincide accurately with fabrication lines having 100-per-cent capacity utilized. At such times you better sell the stocks, because it can't get much better. Conversely, the best buy points on the charts occur when plants are only 60-per-cent full, all companies are losing sacks of money, and analysts are forecasting further losses.
For instance, a year or so ago, many tech plants were half empty, yet I noted here that the Nasdaq's prospects were rosy. It has since risen nicely. Where is it headed now?
Short term, I have no idea. But over the next year or two, it should be good, because plants of chip machinery producers are not yet 100-per-cent full. When they are, everyone would be euphoric, the Nasdaq's chart would be buoyant -- and I hope I would be smart enough to sell.
Avner Mandelman is president and chief investment officer of Giraffe Capital Corp., a Toronto-based money management firm.
amandelman@giraffecapital.com
Since this column began, I have been recommending that you do more personal due diligence of the companies whose stock you consider. Go out there and sleuth, I said, and you can outperform those who stay at home and rely on the Internet and charts.
That long-ago mention of charts brought a small flurry of e-mails from those who swear by them. One or two even claimed that price charts tell them everything they need to know. "Don't you ever look at charts?" one e-mailer asked.
Well, I do. But not for reasons you might think. Let me give you a few cases, then why it's relevant now.
Years ago, I had travelled to New York to listen to superinvestor Jim Rogers speaking to a class of budding graduate student investors at Columbia University. In that class, Mr. Rogers spoke about sugar. Even though I didn't invest in commodities, the points he made were good for stocks as well, and so they bear repeating.
When he started to invest, Mr. Rogers said, he looked for commodity charts going back 100 years and more, perused them, and marked the bull and bear markets. Then he dug out the history books to see what events that took place at those periods could have influenced supply and demand. That, Mr. Rogers said, is the legitimate way to use charts. Not as a magic trigger that tells you to buy flying-saucer bottoms or sell head-and-shoulder-blades tops, but as a pointer to past fundamentals that may recur today.
For example, in the case of sugar, Mr. Rogers found that nearly every time there was a sizable war, sugar went up. Was it because the population indulged in comfort food to forget the misery? Or did the army buy sugar in bulk for the fighting men's tea (then) or Coke (now)? Hard to say, but the historical fact is clear: In most times of national conflict, sugar's price rose.
So, if you are a commodity trader, this is a powerful fact to keep at the back of your mind, because if you think a current war may last, you would be favourably inclined toward sugar. If you think peace is at hand, you may want to sell it.
Mr. Rogers' use of charts as a pointer to fundamentals was no an aberration on the part of an honest value investor. None other than Warren Buffett did something similar. In a Fortune magazine article from November, 1999, he gently mocked those who forecast the economy in order to forecast the stock market.
The assumption that a good economy brings a rising stock market was bogus, the Sage of Omaha said. Just look at the evidence. Mr. Buffett pointed to two 10-year periods, one with low economic growth, and yet enjoying a wonderful rising market, the other with high economic growth but a stagnant market. The charts were clear. (So what did help markets rise? Why, the Sage said, you must start with cheap valuations and high interest rates, and see rates come down. Then you buy stock by stock-- fundamentally.)
Whereas Mr. Rogers used very long-term charts and data to learn about a commodity's supply-demand fundamentals, and Mr. Buffett used them to make conclusions about the market-economy connection, such tools can also be used for individual stocks. Here are two examples: One from the past, one from the present.
When I was a research director, a mining analyst once forecast that Inco (which was still independent then) would lose a ton of money. Such a loss, he said, only happened three times before in the company's history -- here are the dates. It's such a historic disaster, the analyst said, we must slap a "sell" on the stock.
However, taking a page from Mr. Rogers' book, I asked the analyst to bring me a 40-year stock chart of Inco, then mark the points where those historical losses occurred. As you probably guessed, these proved to have been the best buy points. Please note, the chart was not used to show a "buy" because of moving averages or what have you. It simply showed that a company that survived more than 40 years, and had a reasonable chance to go on surviving, was one you bought when things looked grimmest, because that's when everyone else ran away from the stock the fastest.
Indeed, as every long-term chart would show you, the best times to buy in cyclical industries are when things look most awful. For example, oil and gas, when the Economist had a cover declaring: "The world is awash with oil"; mines, when metal prices sank below production costs; or microchip machinery makers, when such companies lost money in fistfuls and couldn't fill their plants.
That last one in particular is an exercise we have done in Giraffe long ago. We can show that "sell" points for microchip machinery makers coincide accurately with fabrication lines having 100-per-cent capacity utilized. At such times you better sell the stocks, because it can't get much better. Conversely, the best buy points on the charts occur when plants are only 60-per-cent full, all companies are losing sacks of money, and analysts are forecasting further losses.
For instance, a year or so ago, many tech plants were half empty, yet I noted here that the Nasdaq's prospects were rosy. It has since risen nicely. Where is it headed now?
Short term, I have no idea. But over the next year or two, it should be good, because plants of chip machinery producers are not yet 100-per-cent full. When they are, everyone would be euphoric, the Nasdaq's chart would be buoyant -- and I hope I would be smart enough to sell.
Avner Mandelman is president and chief investment officer of Giraffe Capital Corp., a Toronto-based money management firm.
amandelman@giraffecapital.com
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