5 things to know before trading on a recommendation
We all know that intensive study and research is the key to success and part of this is reading as many expert’s opinions as possible. You may find these opinions practically everywhere: newspapers (Financial Times, Wall Street Journal, etc), magazines (The Economist, Forbes, Business Week, Barron’s, etc), websites (marketwatch.com, bloomberg.com, reuters.com, money.cnn.com, etc), blogs, you name it. There is plenty of information provided by thousands of experts.
However, how do you navigate this sea of information? How do you know if an “expert” is really an expert? How can you tell if a recommendation is worth following? Below are a few questions you should ask after reading an article with trading recommendations and the answer to them should tell you what to do next.
1. What is the personal interest of the expert?
This is the hardest one. In any developed country, the legislation imposes that any such article has a disclosure paragraph (usually in the end) where the author informs the readers regarding his interest in the subject asset, namely whether he, directly or indirectly (through a relative or a company he owns), would benefit from any asset price fluctuation. Most of them, especially the high profile experts with a reputation to protect or verifiable holdings comply with this provision.
If the article has such a disclaimer, you should make sure you understand the nature of the interest and act carefully. Otherwise, I consider that if he is a high profile professional then he is probably being honest, if not his opinion probably won’t influence markets so it doesn’t matter that much. All in all, be careful.
2. What are his credentials?
It is very important to check who the expert is. Personally I consider a must-read any article written by an executive of a big company or central bank, head of state or government, practically anyone that has access to information. These people have lots of interesting things to say and when they decide to share some wisdom we have to listen.
But what if you come across an article written by a certain “John Smith” you have never heard of? First of all do a minimum of research. Maybe he is a hot shot that you never heard before. Maybe he is related to someone important. If not, act with prudence. He may be a smart guy yet undiscovered, but also an ignorant who doesn’t know what he is writing about.
3. Does the article make sense?
If the writer is someone you know or have heard of, you might trust that his opinions are worth taking into consideration. Otherwise, you should try to be critical and see if you can find any severe flaws in the judgment. First of all you should look for contradictions, such as a paragraph stating one thing and the next one stating the opposite. Another thing you should check is if there are flagrant theoretical errors – that means that it faults the basics of economic theory. In the end, see if overall it sends a message.
You don’t have to be an expert to check all these. It is mostly a matter of common sense and basic knowledge. If the article fails any of the above, skip it as it probably doesn’t have a high enough standard to use it in your analysis.
4. Are the ideas and conclusions specific enough?
A writer that has something to say about a certain topic and knows how to do this will stick to the point. Such an article will have clear subdivisions, such as an introduction regarding the topic, a body stating the facts and the opinions as well as a conclusion. It is very important to know that he must provide a fair amount of facts and figures on which his judgment is based.
An article that fails to do this raises a series of questions. Does the author have extensive knowledge regarding the topic? Does he know how to interpret facts and figures in order to reach a conclusion? Does he avoid using facts and figures because he fears they will contradict with his conclusion? Does he intentionally avoid clear subdivisions in order to blur the message?
All in all, if you don’t understand what the writer’s message or conclusions, then it isn’t worth reading.
5. Are the conclusions relevant?
You have finished reading the article and you think it passes all the tests mentioned above: it makes sense, it is logical, it is clear, it is specific and it has and actual conclusion. There is one more point to check: does the conclusion actually mean anything? You may come across an article whose author is so unsure of his analysis, that his conclusions are extremely loose. If after an interesting analysis you find out that for the next 6 months Oil will not surpass 200 USD/barrel or 1 EUR will be worth no more than 2 USD, you’ve wasted your time and something is wrong with the article.
As a conclusion, please note that the steps mentioned above are under no circumstances a guide to identifying a correct recommendation or opinion. If a certain article meets these criteria, it doesn’t mean you should trade in accordance to its findings. It only means that it might be a piece in the puzzle of your decision making process. My strong advice and rule number 6 is: “Never trade on a recommendation”. Never rely solely on a third party’s analysis. Always make your own judgment, as it is you money at stake.