Every Wednesday, we publish our “Investor Toolkit” series on TSI Network. Whether you’re a beginning or experienced investor, these weekly updates are designed to give you specific investment advice. Each Investor Toolkit update gives you a fundamental piece of investing strategy, and shows you how you can put it into practice right away.

Today’s tip: “Technical analysis may occasionally seem like an effective guide to picking stocks, but it can’t tell you enough about a stock to be consistently reliable.”

Some investors rely on technical analysis (which is basically chart reading) when they’re picking stocks. Relying on charts seems much simpler than delving into and weighing a company’s fundamentals.

There are successful investors who find that it helps to know some things about charts. But if you rely on charts at all, you should view them as just one of many things to consider when you make investment decisions.

How Successful Investors Get RICH Learn everything you need to know in 'The Canadian Guide on How to Invest in Stocks Successfully' for FREE from The Successful Investor. How to Invest In Stocks Guide: Find 10 factors that make your investments safer and stronger.  I consent to receiving information from The Successful Investor via email. I understand I can unsubscribe from these updates at any time.

Narrow focus on the movement of stock prices ignores crucial information

The main problem with technical analysis is that it focuses too narrowly on a stock’s past price movements in an attempt to determine its future price. It’s not really concerned with any other crucial parts of a company’s business, such as financial statements or management. Rather, it just zeroes in on how stock prices have behaved in the past, and the clues that may offer about future price movements.

In fact, an investor who relies solely only charts might buy and sell a stock while knowing little or nothing about the underlying company.

The appeal of reading charts is that this approach often seems to work, at least in small ways. But this may be an illusion. Chances are you may only remember your successful chart interpretations. More important, this kind of analysis tends to work in spurts. The risk is that it might lead you to make five or even 10 small wins—and then it could very well steer you wrong at the worst possible moment. That next mistaken trade may cost you a lot more than your winnings to date.

Our investment advice. Use technical analysis to support—not determine—your view of a company. A far better approach is to look at chart reading as one tool among many. Above all, don’t look at the chart for a prediction of what’s going to happen. Look to see if the pattern on the chart appears to support your view of the stock, based on its finances and other fundamentals. But remember that the stock market follows a multitude of factors to varying extents, and the most important or influential factors will change continually.

Of course it’s encouraging if your analysis and the chart seem to match. But sometimes they don’t. If a company looks promising, but its chart shows a lengthy falling trend, insiders may know something you don’t. That’s when you know you have to dig deeper, and perhaps wait until the situation clarifies itself.

COMMENTS PLEASE—Share your investment experience and opinions with fellow TSINetwork.ca members

Can you think of a specific example in which a trend indicated by technical analysis helped you make a good decision on a stock? Or an example in which technical indicators misled you about a stock? Is there a particular form of technical analysis that you find useful? Let us know what you think.