Technically, you should sell GigaMedia (Nasdaq: GIGM) right now.

We examined the company using moving average convergence-divergence (MACD), which is one of the most popular and long-used technical analysis indicators. Technical analysis is the field of buying and selling stocks not based on the underlying merits of a company, but rather on the patterns and formulas around its price movements.

Signal line crossover is one of the more common ways to interpret MACD. It uses a series of moving averages (in this case, nine, 12, and 26 days) to look for bullish and bearish crossovers that indicate a stock has momentum in one direction or another. Below you can find a current chart of GigaMedia's MACD profile:


Confused? Well, that's preposterous! How could you ever be confused by something as simple as a moving average convergence-divergence chart! OK, we jest. But in all seriousness, this is actually one of the simpler methods for technical analysis.

Still, if you'd strictly followed the rules, seeking out upward and downward momentum, you would have seen the stock move between buy and sell categories a fantastic 20 times in one year.

A better way to size up companies
Here at Fool.com, we're more interested in other measures of company value. When we look at GigaMedia and its peers, here are the areas that interest us:

Company

GigaMedia

NetEase.com (Nasdaq: NTES)

Shanda Interactive Entertainment (Nasdaq: SNDA)

Giant Interactive Group (NYSE: GA)

Market Cap (millions)

$110

$4,838

$2,549

$1,429

Annual Revenue Growth

-17.07%

28.90%

39.92%

-12.07%

Revenue (TTM, millions)

$152

$4,146

$5,338

$1,192

Operating Margin (TTM)

-2.31%

50.35%

35.53%

60.93%

P/E (TTM)

NM

17.54

13.98

13.03

PEG (5-year expected)

1.37

0.00

1.31

1.02

Source: Capital IQ, a division of Standard and Poor's; TTM = trailing 12 months.

We prefer to look at the fundamental drivers of value. Investors should closely watch statistical fields like return on equity as well as qualitative values like competitive advantage and managerial effectiveness. These areas led investors like Warren Buffett and Seth Klarman to decades of outperformance. Buying and holding great companies is the best solution for individual investors to build lasting wealth and achieve their financial goals.

So when you look at GigaMedia, don't evaluate it for crossing a momentum line. Buy or sell it because:

  • GigaMedia showed fantastic growth from 2003 to the end of 2008. In that time, the company went from $18.8 million in revenue to $190.4 million. During that time, its earnings went from a loss to $44 million in profits.
  • However, the good times hit an abrupt wall last year. Revenue declined sharply, and the company is no longer profitable.
  • The case for buying GigaMedia now predominantly relies on balance sheet strength. At the end of the first quarter, the company had $63 million in cash equivalents and $24 million in long-term investments versus $23 million in short-term borrowings. Contrasted against the company's paltry $110 million market capitalization, that's a sizeable cash pile. However, the company also recently closed on a deal to sell 60% of its Everest poker business. The deal gives GigaMedia an additional $100 million that should show up as a one-time gain in the company's second-quarter earnings, further enhancing the strength of its balance sheet. While the company's operations may be troubled, the underlying business is essentially valued at less than zero.

Want to sell GigaMedia based on technical merits today? Technically, odds are that you should flip and buy GigaMedia sometime very soon. If that sounds like madness to you, well, we here at Fool.com agree. In every market decline, technical analysis gets its share of proponents. The cries that "buy-and-hold is dead!" get louder, and individuals race toward schemes that promise greater wealth in a shorter amount of time.

I don't deny that technical analysis could make investors money. In any random short-term transaction, you're essentially playing a 50/50 game of chance. However, at the same time, most technical analysis schemes are a relatively simple science, eliminating the vast complexities of evaluating true company value. However attractive, this theory is ultimately the wrong path for individual investors. Technical analysis relies on long-held beliefs about exploiting momentum and consistent patterns throughout the market.

However, with as much as 75% of market trading now done by Ph.D.-level programmers at massive high-frequency funds, even if opportunities existed, what chance would an individual have to sniff these deals out? With so much volume now driven by these funds, how can you be certain the same rules of patterns still even exist?

I could also point to Massey University's study across 49 countries, which showed that more than 5,000 trading rules add no value. However, the real reason to forget about technical investing is what we mentioned earlier: GigaMedia crossed the crossover 20 times in the past year! While traders might not buy and sell with each crossing, cases of high momentum are normally short-lived. The amount of trading in most technical analysis schemes racks up commission fees and short-term capital gains taxes, eating away at profits. More importantly, it takes away from the idea of holding a portfolio of great companies that can accrue wealth over a long time.

That's why, at Fool.com, we recommend that individual investors establish a portfolio of well-managed companies with strong advantages over their competitors. In the end, we find that to be the best contributor to long-term wealth. More importantly, it'll spare you from sitting bleary-eyed in front of a computer with a Big Gulp full of coffee, frantically buying in and out of companies. But hey, if your idea of protecting your future is charting the ups and downs of moving average convergence-divergence charts, then GigaMedia looks like a sell right now. Just don't expect it to stay that way for very long.

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Jeremy Phillips doesn't own shares of companies listed above. NetEase.com and Shanda Interactive Entertainment are Motley Fool Rule Breakers recommendations. Try any of our Foolish newsletter services free for 30 days. The Motley Fool has a disclosure policy.