Monday, March 28, 2011

Can You Make Sense Of This Chart?

Have you ever seen a commercial for some kind of financial service showing people on computerized trading platforms with more blinking lights and features than the Starship Enterprise? Or have you ever watched CNBC and been sensorially overloaded by the massive array of ticking stock data and colorful charts? It all looks very fancy and impressive, but it's just that: fancy and impressive. These images of sophisticated trading systems are designed to perpetuate the myth of the financial superhero, looking at his charts, making trades, producing miraculous results. Real successful investing is a lot less exciting. Sure, it would be fun to be a financial superhero, recognizing patterns in the market that all others didn't see, clicking your mouse and nailing down huge, market-beating profits. This is the fantasy that companies like E*Trade want customers to believe in, and it was one E*Trade commercial I saw months ago that prompted me to write this article in the first place. The commercial plays like a manifesto for active investment strategies. "Sitting, waiting, hoping. That's a recipe for failed investing," says the commercial's voice-over, heard over an image of a flatlining EKG screen, I suppose to emphasize that passive investment strategies are dead, or will kill your portfolio.

But is this true? No. Sitting, waiting and collecting dividends can often be more profitable than speculation. In fact, my understanding is that in general, long term buy and hold strategies are far more lucrative than frantic trading based on price fluctuation. Just ask Warren Buffett. To quote the world's most successful investor "I realized technical analysis didn't work when I turned the charts upside down and didn't get a different answer." So, if that negative view of chart-watching is held by such a successful investor as Warren Buffett (and the majority of academics in the field of finance) why do we see so many charts on commercials for E*Trade?

It's because E*Trade has something to gain. The company gets a fee for every trade their customers make. So it's only natural for E*Trade to try to convince its customers that profit opportunities slip through their fingers every second they are not trading. Because trading volume is the source of E*Trade's revenues, it would like its customers to treat investing like a video-game, or perhaps a slot machine. If customers keep pulling that handle, E*Trade makes money. Hence the fun looking interface and colorful graphs.

The new features of E*Trade's online trading platform supposedly provide the user with expert advice and analysis to help them "seize opportunities" (Cut to fancy charts and buttons!). E*Trade says this advice is unbiased, and I hope that's true. But judging from the pop-finance mumbo-jumbo of their commercials, I'd take E*Trade's advice with a big grain of salt. Perhaps a container of Morton's. Admittedly I'm no investment expert, but common sense and some finance textbooks have told me that no human being could extract usable information from the massive amounts of effectively random price data running across the screen on a fancy trading platform or CNBC broadcast. Perhaps a superhero could. But as we are merely human beings, it might be better to put the charts aside, sit back, relax and collect some dividends.

Here's a link to the E*Trade commerical if you're interested.