Norén - HOW TO INVEST LIKE THE WORLD’S GREATEST INVESTORS: A Fast Guide to Proven Strategies for All Market Conditions

Those who cannot remember the past are condemned to repeat it

George Santayana

In stock market analysis there are two major schools, fundamental analysis and technical analysis. Everyone that invests or speculates in the stock market (we will discuss the difference between investing and speculating later in this chapter) is directly or indirectly affected by at least one of these schools.

Fundamental analysis is the traditional way of analysing a stock. Here you look at relevant financial measures.

In technical analysis you try to predict the stocks movement by looking at historical data. The thought is that history will repeat it self. The investment strategy that we will look at in this book is part of the fundamental school.

Technical analysis does not work in reality! But Technical methods are very popular and there are several books and software programs out there. Many of them promise fantastic results and talks about big profits.

Our analytical program is the best in the market. The portfolio is up 500% so far this year.

Of course you get interested. But behind the advertising you will often find constructions made up after the market is closed. It is easy to place a bet when the race is over and you know the result.

By looking at a chart you can see how a stock has moved in the past. But to use this information to predict the future is a waste of time. Many things will happen to a company during its lifetime and the fundamental analysis becomes a necessity to determine the companys present status. If you rely on technical analysis you might as well use astrology (and yes, there are people wasting their time on market forecasting with astrology as well).

Efficient Market Theory, from now on referred to as EMT, is the name on the investment theory that has had the biggest influence on the financial world during the last decades. We are talking about a gigantic influence here. This is what business schools around the world are teaching their students. With an acceptance like that from both the financial and the academic world you might think that this is the way to invest, right? Wrong! This is not the way to invest! EMT doesnt work and it is important to know why because so many peoples behaviour in the marketplace is dictated by this theory.

According to EMT the market is always giving a stock a correct valuation, even in the short-term. With that many experts analysing and acting on all the available information the stock must have a correct price in every moment. The only way to beat the market then should be by trading on insider information. And that is illegal.

But the skilled investors who beat the market year after year, how do you explain them? Are they cheating or are they just being lucky? You must also ask yourself how big crashes like the one in 1987 can occur if the market is efficient at all times. Are profitable and well-managed companies, whose stocks are being pushed down by the depressive state of the market, really a much worse investment today compared to yesterday?

But believers in EMT think that they know a way to actually beat the market. It is done by consider the risk involved. They think that risk is the same as volatility. Volatility measures how much the price of a stock moves up and down. The bigger the price movement is the bigger the risk is, according to EMT. This is referred to as Beta.