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Can Share Software Predict Prices?

By David McEwen

Monday 13th November 2000

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Is it possible to predict share prices both accurately and consistently?

Many people say they can. Often they are pushy salespeople selling share trading computer programmes for several thousand dollars. Returns of many hundred per cent a year are promised.

Since my article on this subject two weeks ago, I have had a number of requests to comment on the effectiveness of share analysis and trading programmes.

I am sceptical about the ability to forecast share prices using historical information. This applies as much to fundamental analysis (using a company`s financial figures to forecast results and share prices) as technical analysis (charting past share prices and trading volumes to identify the direction of a market or share).

One reason for this is that the performance of a company, and the price of its shares, are determined by many factors unrelated to the past.

These include changing economic /or business conditions, new investments or strategies, investor sentiment (which can lead to speculative bubbles and crashes), storms, wars and many other unforeseeable events.

Studies of the US share market have found it to be an inherently chaotic place and prices therefore move in a random way. There is no reason to think the New Zealand share market is different.

Therefore, any programme that purports to predict where share prices are going should equally be able to forecast other chaotic events, such as the weather.

Given the difficulty meteorologists have in doing that, there are grounds for thinking that a programme has yet to be devised that can make accurate forecasts based on random events. If there were, something that good would not need to be sold to strangers over the telephone.

To look at it another way, millions of dollars are spent every year by the world's largest broking and investment firms to devise new strategies and programmes that will help them make money on the share market.

They employ mathematical geniuses and, literally, rocket scientists.

To date, none have devised anything that accurately and consistently predicts share prices.

If they did, their profits would be so immense that others would quickly realise that the market was no longer equal. That would probably bring to an end the concept of a marketplace. After all, for every buyer there has to be a seller, each with different views of and expectations for the share being transacted. In every case, one of those parties will be proven wrong.

The best investors can hope for is that they are right more often than they are wrong. Beware of anyone or anything that promises to beat the market all the time.

So, if the past is an unreliable indicator of the future, how can investors expect to make consistent profits from the share market?

I believe the only way is to pick companies with excellent management. Good managers are able to respond rapidly, effectively and, above all, profitably to changing circumstances. Qualities to look for include experience, vision, strategic focus and leadership.

Unfortunately, these cannot easily be reduced to numbers. I have not heard of a computer programme that can measure the quality of executives and their impact on company performance and share price.

Now that would be something worth buying.

David McEwen is an investment adviser and author of weekly share market newsletter McEwen's Investment Report. He is commissioned by the New Zealand Stock Exchange to write an independent personal investment column. He can be reached by email at davidm@mcewen.co.nz.

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