Apr 2006

Quick note before we begin: when you hear or read the term TA, it is simply an abbreviation for technical analysis. The terms ‘technical analysis' and ‘TA' are used interchangeably throughout.)

This series is an introduction to Triple V analysis -- which perhaps sounds exotic, but it really isn't.

Triple V Analysis is really just technical analysis stripped down to its core essence. It takes this wandering, complicated mass that is TA -- this frequently abused, over generalized thing -- and distills it into a more pure and useful form.

So, why call it "Triple V Analysis?" Why come up with a fancy new term?

Well, because there are so many versions of technical analysis out there -- so much ‘stuff' that claims the label of TA -- that the label has almost become meaningless. It does have meaning within a certain basic context, in that TA means deriving information from price movement. But beyond that, there is a ridiculous amount of room to maneuver.

For example: When someone says Oh sure, I use TA all the time, who knows what that might really mean?Technically (no pun intended) it could mean any of the following:

- They consult the technical picture for the stock, industry group, and sector as a whole

- They glance at the long term chart to see if it "looks good"

- They check the 20, 50 and 200 day moving averages

- They look for some combination of RSI,MACD and Williams % R convergence

- They analyze the Elliott Wave count and Fibonacci Retracement level

- They consult chicken bones and check whether the moon has entered the seventh house

As you can see, there is a huge variety of interpretation as to what ‘technical analysis' actually is... some of it practical, some of it useless, and some of it downright senseless.

So what do I mean, here and now, when I talk about technical analysis?Before we can get into Triple V Analysis, which is a distillation of TA, we need to better define our starting point. We need some clarity here!

Let's start with a generally accepted and popular definition of technical analysis; one that most people would generally agree with at first blush.

Stockcharts.com (which is affiliated with John Murphy, considered by many to be the grand old man of TA) defines it like this:

Technical Analysis is the forecasting of future financial price movements based on an examination of past price movements.

Hmmm, Okay. "The forecasting of future financial price movements based on an examination of past price movements."Simple, right? Not super insightful, but it gets the job done.

Or does it?

Is technical analysis really about "forecasting future price movements?" Is that the most helpful way to see it? Maybe not.

Let's listen to what two masters of the trading craft have to say.

Victor Sperandeo, also known as "Trader Vic," is truly a trader's trader -- a guy who happily speculates in anything that moves, from IBM to Soybeans to the Japanese Yen. Among other things, he's known for achieving 70% annual returns over a ten-year period, without a losing year during that time. This is Sperandeo's nutshell opinion on TA, excerpted from his book Methods of a Wall Street Master:

Technical analysis provides vital information as long as it is recognized for what it is: a method of characterizing recurring patterns of price movements... The greatest value of technical analysis is that it provides a method of measuring the tendency of the market to react in a particular way under similar conditions throughout history.

That last sentence is a little hairy, so don't worry about breaking it down just yet.The important thing to note, for now, is that Sperandeo didn't say much about "forecasting future price movements."

In his view, technical analysis is good for "measuring the tendency of the market to react in a particular way." That sounds more like hunting for clues of historical context, based on probabilities and past evidence, than trying to necessarily forecast anything. A subtle but important difference. (Now we're getting somewhere, eh?)

My all-time favorite description of technical analysis comes from Bruce Kovner¸ originally profiled in Jack Schwager's Market Wizards. At the time of his Market Wizards interview, Kovner was already one of the biggest traders in the world, with more than $650 million under management. Last I heard he runs more than $10 billion.

Here is Kovner's view:

Technical analysis... has a great deal that is right and a great deal that is mumbo jumbo. There is a great deal of hype attached to technical analysis by some technicians who claim that it predicts the future. Technical analysis tracks the past; it does not predict the future. You have to use your own intelligence to draw conclusions about what the past activity of some traders may say about the future activity of other traders.

A-ha! So, according to one of the biggest and best traders in the biz, technical analysis does NOT predict the future at all. It merely gives you insight into the present.

Inputs from the past are helpful in trying to determine what is happening now, but are not necessarily a guide, and certainly not a guarantee, as to what will happen tomorrow.Kovner goes on to explain how he uses technical analysis personally:

For me, technical analysis is like a thermometer. Fundamentalists who say they are not going to pay attention to the charts are like a doctor who says he's not going to take a patient's temperature. But, of course, that would be sheer folly. If you are a responsible participant in the market, you always want to know where the market is-whether it is hot and excitable, or cold and stagnant. You want to know everything you can about the market to give you an edge.

Great stuff. One last paragraph from Kovner, which sums up the use of TA in tactical situations:

Technical analysis reflects the vote of the entire marketplace and, therefore, does pick up unusual behavior... It is very important for me to study the details of price action to see if I can observe something about how everybody is voting. Studying the charts is absolutely crucial and alerts me to existing disequilibria and price changes.

I see this as application of that old saying, "the proof is in the pudding." In some ways TA is the pudding: if insiders start buying with both hands, or institutionals start dumping their positions, it will show up in the price action.

There could be a dozen different reasons why a market is breaking out of its range on expanded volatility and volume; the biggest clue and most important thing, though, is the fact that it is doing so.TA cuts to the chase in this regard.

I think we've made some good progress now from the original Stockcharts.com definition.To sum up, this is what I believe:

- Technical analysis tracks the past, but does not predict the future.

- Technical analysis provides historical context, allowing one to make useful comparisons to what has happened previously in similar situations.

- Technical analysis reveals the tactical movements, or ‘votes,' of key players through price action and volume.

Next in the series: What's Wrong with TA.