While investment strategies like technical analysis and the efficient market theory sometimes get more hype, the one method that consistently works, and works for very specific, rational and objective reasons, is fundamental analysis.
Here’s why fundamental analysis works: the financial markets convert savings into financial assets that can be used to produce more values for themselves and as a consequence, others in society. Financial markets exist, primarily, to bring buyers and sellers together for their own wants and not the wants of others. These buyers and sellers come together to purchase financial products. They also provide liquidity and make capital (money) available to businesses for growth and expansion. They are willing to do that for a share in the profits (stocks) or a return of money that was lent to a business plus interest (bonds).
A good fundamental analyst worth his weight in gold does not assume the market is subjective or irrational. He also doesn’t assume the market is uniform in returns. Investors and traders will come together, but make different rational assessments of the same company within the context of their own lives and knowledge. Classic example: Microsoft vs Apple.
Their prime motivation is profit. This drives them to make the most rational assessment of the businesses they are buying with the intention that they will make money instead of losing it (obviously, profits are not guaranteed).
What gives one investor or trader an advantage over another is their knowledge of a company’s cash flow, management (experience), and the company’s industrial philosophy. Which means, the company’s adherence to capitalistic principles. Again, think of the classic example.
Most people don’t realize that Steve Jobs was never a great philanthropist. He was unabashedly proud of his company and the profits it made. Look at Apple’s stock price today. Now look at Microsoft. It’s been floundering forever. Not coincidentally, Microsoft and its former CEO Bill Gates has been on a mercy mission to solve the world’s problems.
The more rationally selfish and capitalistic a company is, the more value it will ultimately offer to its shareholders. The less rationally selfish and capitalistic a company is, the less value a company will offer to its shareholders.
The average investor, and even many professional traders and fund managers, often do not understand these principles because they have been misguided by technical analysts, academic theories about investing, because they are taking a short-term approach to investing, or because they simply do not understand or recognize the importance of capitalism and of the necessity for companies to be rationally selfish instead of catering to the popular modern practice of “corporate responsibility” or “social responsibility.”
So, who are the real heroes in the investment world? Who really knows his stuff? Who should you listen to? A good place to start is with the works of Philip Fisher and Benjamin Graham. If you can master those basics, you’re ahead of 99 percent of the population.