Can Retail Traders use Macro and Fundamental Analysis to Trade?

Many retail traders are super smart and capable when it comes to analyzing macro events that could effect markets as well as company specific data that could potentially move that company’s stock. They can formulate a hypothesis that seems just as sound as that of any top Wall Street analyst. That makes sense, given that all material information is supposed to be public and, therefore, everyone has an equal opportunity to see and utilize all of that information.

If you want to make a long term investment in a stable and liquid stock based on your analysis, you are willing to hold through drawdowns and you set a stop at the level you can admit that you were wrong, then you’ll probably be ok. But if you’re looking to place shorter term trades based on your macro or fundamental analysis, then I think you’re taking a risk similar to a gamble.

The smart money, like institutions, hedge funds, mutual funds and other massive financial entities, move markets. They are the only ones that trade the volume needed to do so. Retail traders are almost always just a tiny blimp on the screen, an annoying pimple to be popped by smart money traders seeking liquidity.

The smart money has teams of the best brain power that money can buy who spend their days and nights analyzing companies and markets. They also have access to information that is way beyond the reach of smaller players and retail investors. They speak directly to top corporate leaders and government officials and get insights and information that might never be published in the media the rest of us read. When news is published, the smart money usually already has that information from the original source, and has acted on it. In some cases the smart money is the one responsible for leaking (or even creating) the story.

For example, when the latest Israel-Hamas war broke out, crude oil spiked as would be expected. Then the questions was, would crude continue to rise, based on the possibility that the conflict would spread to the entire Middle East, particularly to Iran, which is the primary backer of Hamas and Hezbollah. I personally felt, and still feel, based on my knowledge of Israel, that the conflict will spread. So I expressed my analysis by buying shares of USO, the largest and most liquid ETF that tracks crude futures. The smart money did not agree with my analysis. Instead, they focused on weaker China economic numbers and a warmer than normal winter, which translates into lower energy demand and lower oil prices.

The smart money clearly had greater insight into the macro geopolitical military situation than I did. They will ALWAYS have better information, data and insight than us retails traders. So trying to trade based on our own macro and fundamental analysis is basically like trading with no edge at all.

The Only Way to Trade Fundamentals

The only way for retail traders to trade on fundamentals is to rely on the smart money to do their research and make their move first. We can’t compete with the smart money, but there’s nothing stopping us from following them.

The clearest way to follow the smart money is by watching the volume behind the price action in a stock or index. Moves made on large volume indicate that the smart money is behind the move, long or short. Moves made on light volume indicate retail activity or a move by the smart money to fake out retail traders and draw them into taking the opposite side of a position that the smart money wants to take.

Another way retail traders can try to determine what the smart money is doing is to follow the options flow in a particular stock or index. Large direction options flow indicates smart money positioning. While it’s impossible to know the true strategy behind options flow, there are ways to greatly increase your odds of correctly identifying the intention behind the flow.

Looking at a combination of volume and options flow can give retail traders a good shot at guessing what the smart money is doing, and giving them the opportunity to follow them into the trade.

Bottom Line

Macro and fundamental research and analysis is an important component to determining what stocks to trade, but it’s not something that retail traders and investors can do effectively, since the information and data available will always either lag or be deficient compared to the research and data available to the smart money.

The best way to do macro and fundamental research and analysis is to rely on the smart money to do it for you, and then simply follow their trades, by tracking volume and options flow.

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