Why Technical Analysis Works
Technical analysis is the study of investor behavior and its effect on the subsequent price action of financial instruments. Humans are predictable in nature which lends to high probability trends and price action.
The primary belief behind technical analysis and why it works; is that a market's price action reflects all relevant information. For example, geo-political economic headlines, fundamental valuations and current news events, which impact price movements, are incorporated into daily, weekly and monthly trends. Price action also tends to repeat itself because investors collectively gravitate toward patterned behavior.
Based on the premise that all relevant information is reflected by price, it is up to the astute Technician to disseminate this information by way of trend identification, anticipating inflection points in price and generating high probability trade ideas.
Technical Analysis versus Fundamental Analysis
We believe that fundamental analysis (P/E ratios, intrinsic values) goes hand in hand with technical analysis and both must be incorporated when investing. Yet, if fundamental factors remain constant (earnings, revenue, management and growth forecasts) historical price trends will lend its self to price movements via the markets technicals.
More importantly, the ever growing percentage of volume/liquidity brought to the market place by hedge funds, systematic trading systems and professional discretionary trading desks require price action analysis as opposed to fundamental analysis (which has an enormous lag effect).
We firmly believe and have seen hundreds of examples through the years that technical analysis generates lead time ahead of a majority of fundamental news/analysis.