by David Forrest (email@example.com)
Mt. Olympus, Greece (Feb. 5, 1999) -- For those of you who haven't read last night's Fool on the Hill, my friend and colleague Dale Wettlaufer takes pretty serious issue with Relative Strength as a tool for investors. In the spirit of agreeing to disagree, I was going to let his column go by the boards without replying to it, until I read the last two sentences.
"In all, push relative strength way down or off your list of things to consider in researching a company. There are much better uses of your time and much more relevant data to consider."
Dale also says in his column:
"Personally, I think it's a non factor in selecting companies for investment. I'm sure you can backtest these things and say that high relative strength companies do this or do that. That's okay if that's your bag -- I'm not going to try to dissuade you from believing that investing is all science and no art."
The troubling thing with the piece is that Dale only sees the formula behind Relative Strength type screens, thinks it's voodoo, and doesn't see the art that does indeed exist. Take Keystone, as an example, which uses Relative Strength as a key determinant. It isn't like Robert Sheard just decided upon a random grouping of indicators to smush together and pray for the best. There's a logical, and artistic, underpinning to the screen. All of the stocks in Keystone are:
1. Large companies (minimum $37 billion as of this writing)
2. Having Timeliness of 1 or 2 from Value Line -- Many people disregard this without realizing that Value Line's top ranked stocks have absolutely crushed the market for more than 30 years. Clearly the people at Value Line are doing some good work.
3. Performing exceptionally well on a price basis (Relative Strength) over the last 6 months.
Keystone only chooses large companies that meet Value Line's criteria and are kicking butt recently with regards to stock price. There is underlying logic, and it isn't all science. I think many hard-core, emotional investors take issue with the notion that mechanical models work. I think it frustrates them that some of these models do as well or better than hours and hours of fundamental research. That's understandable.
As for Relative Strength in particular, it's a tool like any other. It should only be used with other tools. You don't build a house with just a hammer. I completely agree with Dale that anyone using RS as the sole determinant in buying stocks is absolutely crazy. You'll end up getting killed. But to dismiss it out of hand without really discussing the benefits of the metric is logically weak.
The article further points to what are perceived problems with the Relative Strength information from Investors' Business Daily, such as the heavier weighting in the most recent quarter and the fact that the data is based only on one year. I don't view this as a problem. It just is. I'd be curious to hear what Dale considers a proper period of time. Maybe 3 years is better, I dunno. Maybe he wouldn't use it at all, as he doesn't believe that price strength is important.
The bottom line is that while the article hammers at Relative Strength alone, an argument can be made that Dale is taking issue with the whole notion of mechanical investing, i.e. "science and no art." The only answer I have to offer him is a borrowed phrase from another friend and colleague, our CFO Gary Hill. Gary often says to me, "It is what it is."
It is what it is.
Over the past 12 years, Keystone has returned better than 30% a year, which, I might add, is also better than the return of famed investor Warren Buffett (29.7% since 1986). I believe that even if it isn't your bag, these screens have logical and, yes, artistic underpinnings. Relative Strength is a solid tool to use, alongside others, in determining which stocks to invest in.
It is what it is.
[Do you smell a future Dueling Fools?]