"I didn't know you're into all that charting stuff, Bengt", an old mate from my stock broking days said at a pre-pre-Christmas lunch the other day.
He's been reading The Right Side – and has been duly impressed with the simple charts I've been using recently. Regular readers will know that I am very keen on overlaying Bollinger bands on stock charts to help find good entry and exit points for trades.
He went on...
"But Bengt. You know, the way you use the chart is completely contrary to the way I've been told!... your way seems to be working for you, but frankly it shouldn't be!"
Had I made a blunder? Well, no actually. In fact today, I'd like to unmask a common misconception about charts and charting tools. Because I think there is a critical lesson here – one that could start you on the road to becoming a real trader.
Was I wrong about the FTSE?
I've been using the FTSE 100 with Bollinger bands to help find the best times to get in or out of the market. The blue shaded area in the chart below shows the Bollinger band – which tracks the deviations from the 20-day moving average (the pink line).
The way I see it, if the FTSE hits the upper or lower edge of the shaded area, it tells me we're likely to see a reversal. Reversion to the mean is one way of putting it...
Last Friday the market got whacked. Notice how the FTSE (blue line) traded well below my coveted Bollinger band. I said we should expect a bounce back. And wouldn't you know it, come Monday, the FTSE got yanked straight back towards its mean – ie, the 20-day moving average (pink line). And as of yesterday, the market had fully recovered to its 20-day average.
An exclusive report from The Right Side
But as my old colleague was telling me, many investors would have drawn the complete opposite conclusion to last Friday's break-out. As the FTSE fell out of bed, below its trading band, many a chartist would have concluded that it spelled trouble. A breakout from the trading range could have meant that something serious was afoot. One possibility could be to expect a precipitous fall!
The same chart. The same tool – and yet two completely contrary conclusions!
So who's right? Well, as it turns out, I was in this particular instance. But there's an incredibly important point here. And that is, tools can be used in different ways. I'm convinced that the way to make money from stock investing is through finding tools and methods and using them in your own unique way.
You probably don't need a metaphor, but I think this one proves the point quite nicely...
When is a shovel not a shovel?
I'd just taken on a project. A dilapidated stone house in a beautiful spot in the south of France called Languedoc. Having had the walls built back to some sort of structural integrity, I needed some plastering done.
A local lad and his dad gave me a quote. It was a good one... I'd already told them I specifically didn't want pristine surfaces... just a bonding coat – a rustic finish you could say.
"Ah… rustique... oui, oui. Pas de problème." And off they went.
They showed up a little later with little more than two shovels, a garden rake, a plastic bucket and a big, old sponge – all carted around in a tatty old wheelbarrow. I've never seen anything like it...
One chucked a full bag of plaster into the barrow. Two buckets of water followed being sloshed around liberally over the dry powder, and finally father and son mixed it all together with the rake.
These French guys wheeled the barrow to the rough vicinity of operation. Then proceeded to throw shovel-loads of the gooey mix at the wall. They picked up the shovels and used the reverse side to spread the mix around a bit.
They were flinging the stuff all around the place. As the plaster started to go off, they went back to it and sponged it down. The wheelbarrow they had brought along was filled with water to act as a water hopper. These guys were going much quicker than I could have done with the plaster!
Splish, splash, splosh – job done. I gave them their dosh. And very happy I was too.
The point is; a shovel can make for a perfectly good plasterer's trowel. And for that matter – a wheelbarrow is a fantastic mixer, transporter and general plaster's hawk.
It's not the tools that you have at your disposal that counts – it's how you use them. Sure, this technique wouldn't go down well in every situation. But finding innovative ways of using tools in different situations is what it's all about.
That's how to make money from investing too. Write your own investment rule book.
And with that in mind, I'm going to introduce some more technical tools over the coming weeks. I don't want you to be put off by tools – especially not technical ones. There are no right or wrong ways. Sure, there are age-old methods out there. But you're unlikely to make serious cash by simply copying what everyone else is doing.
I'll give you the tools and tell you how I use them. But how you decide to use them – well, that's up to you.
• This article is taken from the free investment email The Right side. Sign up to The Right Side here.
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