Perfect pair: value investors and traders need each other

It's not enough to upset just one group of investors in these articles, so let's play it safe and upset them all.

It's not enough to upset just one group of investors in these articles, so let's play it safe and upset them all.

Why do value investors persist in declaring that they can't time the market without even trying? At the same time, why do technical traders persist in treating shares like cabbages and trade Woolworths or CuDeco without respect to quality and therefore risk? Why not try a little bit of both? Being narrow in approach is an Achilles' heel for any investor and, in a very nervous market, why would you close your mind to anything that helps?

It is surely not good enough for a value investor to declare a company a good company and label it a buy, while ignoring the fact that the money is made out of share prices, not companies.

If you're trying to guess where a share price is going, you cannot dismiss share-price drivers such as trends, sentiment and non-value-based factors because they too go into the money-making equation and making money is what the game is all about, not valuing companies.

Making money and valuing companies are related but are not the same. If you want to do better, you need to study the whole equation - all the factors - and not just one. Why limit your options?

And for technical traders: excuse me but isn't your craft all about identifying which stocks have a higher-than-random probability of doing what you think they will and trading them in preference to the other stocks? Therefore, do you not think that knowledge of the fundamental qualities of a stock is going to enhance that practice?

Aren't your odds of making a successful trade going to be improved by buying a stock that achieves a high return on equity rather than one that does not? And will you not be better off knowing to avoid the shares of a company whose balance sheet is shot? Would it be useful, for instance, to know whether you are trading in a Greek bank stock or an Australian bank stock?

In a market that goes up 11.7 per cent per annum (the average annual compound return on the All Ordinaries Index in the 33 years from 1974 to November 2007), almost every investment approach will work and you can safely ask investors to believe in any theory to do with making money out of shares and not disappoint them. With 11.7 per cent average annual returns, there is enough room for value investors and technical traders to operate independently because every approach works, no matter how incomplete - 11.7 per cent will hide a lot of sins, black box theories, DVD courses and selling wrapped up as education.

But it is a very different market now. It is tough and you have to ask, in a market that has fallen 54.5 per cent, risen 60.7 per cent, fallen 25.2 per cent, risen 13.2 per cent and is still 37.7 per cent down in the past 4? years, have things changed? Will any approach still work? Can you still ask investors - who have survived the GFC, are down 37.7 per cent and are sick of losing money - to still trade in any old stocks and make money, or put their faith in a value approach in the long term, when further devastation is seemingly so possible in the short term? It's a big ask.

Without a rising tide, this has become a traders' market. A cliche, for sure, but it's true. No one wants to set and forget. You have to do better than that. You need trading skills.

But more interesting is the revelation that rather than put the value approach in mothballs until the next bull market, it has suddenly become more relevant than ever. In a market being priced on risk and populated by risk-averse investors, what more valuable tool could you have than a filter to identify the best stocks? That's what the value guys do best. They are the market's quality filter and they provide an essential service for the traders.

That's the formula. The value specialists find stocks and traders work out when to trade them. It's like synchronised swimming and without each other, they will both drown.

Want access to our latest research and new buy ideas?

Start a free 15 day trial and gain access to our research, recommendations and market-beating model portfolios.

Sign up for free

Related Articles