Psychological Analysis. Adam Sarhan

term will most likely miss the absolute low and high of a stock's move, but I find that it is virtually impossible for anyone to consistently capture the absolute low and high of any move. That's why I'm more interested in capturing the bulk of the move and profiting broadly from the larger trend, and not trying to pick the exact top or bottom (which almost no one can consistently do).

      Long‐Term: Buy‐and‐Hold Investors

      Buy‐and‐hold investors are long‐term investors. Their goal is to buy undervalued assets, hold them for the long run, and profit over time. In most cases, they hold on to the underlying asset as long as their underlying fundamental thesis remains healthy. Warren Buffett is the king of long‐term value investing. He often seeks out businesses with strong fundamentals that are undervalued—that is, they are trading below their intrinsic values—and he buys a stake that he plans to hold for years. Most people will do better with this approach because they will be able to ride the Great American Tailwind.

FUNDAMENTAL AND TECHNICAL ANALYSIS

      As I write this book, there are two prevailing schools of thought when it comes to analyzing markets for the purpose of making informed investment and trading decisions: fundamental analysis and technical analysis. All things being equal, fundamental analysis is used to study the company and technical analysis is used to study the stock. I hope that people will build on my work and that psychological analysis, as introduced in this book, will become the third major school of thought.

Fundamental analysis focuses on the core measurements used to determine the health of a company: sales, earnings, the price‐to‐earnings ratio, return on equity, and many other factors. Fundamental analysis also considers the overall health of the economy, including external factors (like politics) that could have an impact on the performance of the stock in the long term. In short, fundamental analysis is a process investors use to measure the health of a company and assess the state of the economy, to identify under‐ (and over‐) valued assets.

      Technical analysis uses historic price patterns, measures of market volatility, volume, and other technical indicators as means of interpreting price movements for particular assets. Technicians acknowledge that the price of a stock does not always reflect the financial realities documented in a company's annual report nor the existing economic climate. Good traders can use this data to make money even when dealing with troubled assets in volatile markets. Whereas long‐term investors rely on fundamental analysis to inform their market strategies, short‐ and intermediate‐term speculators use technical analysis to guide their trading decisions.

      It doesn't matter what type of analysis you use to inform your market strategy as long as it works for you and returns a profit. Personally, I have realized extraordinary success by building a market strategy born out of the principles of technical analysis. While I have long‐term investments in my broader portfolio, most of my profits come from short‐ and intermediate‐term trades that take advantage of sustained price movements in the market. At my core, I am a speculator who likes to ride trends and capitalize on abnormal price and volume action.

      That said, being a speculator is not for the faint of heart. I lost a lot of money before I developed a strategy that could beat the market, and I lost even more money before I developed the discipline and the smart money mindset required to stick to my strategy and realize actual profits. Trading is not for everyone. Thanks to the Great American Tailwind, despite the daily ups and downs, the long‐term trend of the U.S. stock market is upward; that's why most long‐term investors tend to outperform active short‐term traders. However, for those of us who can excel at the art of trading, the results can be magnificent.

THE ANATOMY OF A TRADER

A trader creates a market strategy based on technical analysis of price patterns and looks for assets that are poised to make a significant movement in one direction or another. They can take a long position when they think a stock will go up, and they can take a short position if they think a stock will go down. Either way, if they are right, they are poised to make a tidy profit.

      A trader will invest most of their time poring over stock charts looking for patterns that may indicate that a particular asset is poised to make a move. Good traders are agnostic with respect to the direction; they will profit whether the stock goes up and or down. To be clear, discretionary trading is more of an art than a science.

      Stocks that are ready to move often present some telltale signs (I'll share some of them with you when I reveal my A.M.P.D. strategy), but at first, you'll likely find these signifiers difficult to spot on your own; they have a quality that is very difficult to describe. Just as I can't accurately describe what the color red looks like or what chocolate tastes like, I also can't accurately describe the quality of a stock that's ready to take off. I can, however, point you in the right direction so, as you explore stock charts on your own, you can begin to develop a sense for detecting this important quality yourself. The best traders use several characteristics, but irrespective of their exact method, it will usually revolve around price as a primary component and volume—or some other technical indicator—as a secondary component.

      One goal of this book is to help you determine whether you are an investor or a trader (then bring out the smart money superhero out to play). If you decide that a long‐term investment strategy best suits your personality, style, and appetite for risk, then my hope is that as you read on, you understand why you feel that way, and you'll avoid the temptation of dabbling in trading and instead commit to a strategy that works for you. If you decide that you are a speculator, this book will provide you with a great risk‐adjusted and time‐tested trading strategy. More importantly, we'll explore the psychology required to develop the smart money mindset needed to avoid the common pitfalls traders face so you can win.

      I am looking forward to sharing my A.M.P.D. trading strategy with you and telling you about psychological analysis, but first I need to make sure you know the basics of fundamental and technical analysis. Once we get through that homework, you will have the tools you need to benefit from the rest of this book.