While only about a third of my recently published book, The Intelligent Option Investor, is dedicated to the topic of valuing companies, I find a lot of people have more questions about that than they do about options. My previous Forbes articles dealt with option theory and practice, but my next few will talk about how to figure out what a given stock is worth–the first step in intelligent option investing.

I know this article about the three great investing fantasies–Technical Analysis, Ratio Analysis, and Fundamental Analysis–may anger some people, but I hope you will hear me out. My purpose is not to inflame passions, but rather to encourage thought and reflection and to point investors toward a more sensible way of figuring out what a company is worth.

Fantasy 1: Technical Analysis

“Resistance,” “Support,” “50-day moving averages”… These terms and others in the Technical Analysis (TA) lexicon have become a ubiquitous part of conversations about investing, especially since the rise of Internet trading and cheap or free access to virtually unlimited amounts of financial data. In aggregate, investors spend an enormous amount of time learning and memorizing “chart patterns” and trying to read the tea leaves using fancy-sounding techniques like “oscillators,” “Bollinger Bands,” and the like.

The problem is that, other than very short-term effects (like when a large number of investors sets stop loss orders just below a “support level”) TA has been shown time and time again in controlled academic studies to be no better than throwing a dart when it comes to timing investment selection. In the field nearest and dearest to my heart–option investing–an academic paper published in Germany just last year conclusively showed that…

[I]ndividual investors who use technical analysis and trade options frequently make poor portfolio decisions, resulting in dramatically lower returns than other investors.

If this is the case, why is it so popular then? First, TA resonates well with something that humans have evolved to do very well: recognize patterns. The problem with our pattern recognition skill is that, as Behavioral Finance researchers have shown, humans are so good at it, they recognize patterns even when patterns do not in fact exist! The volumes of books explaining technical analysis are the modern equivalent to all the books written in the 19th century about explaining the “science” of phrenology–historical stock price records may appear similar, but the “patterns” found there are not useful for making decisions.

Second, TA is good for one class of financial agents–the brokers who get paid in proportion to the number of trades their customers make. TA can give hundreds or thousands of buy and sell signals every day (looking across multiple assets and markets), so online brokerages make a point to include “fancy” technical analysis tools with all their trading platforms. The money spent on developing the tools is more than paid for by the fees generated by investors’ (too) frequent trading.

Fantasy 2: Ratio Analysis

“ABC’s stock is trading for 12 times earnings and its direct competitors are trading for an average of 14 times–time to buy ABC.” How many times do you see an argument like this in the financial press or hear it on financial news programs? At first glance, it makes perfect sense–companies involved in the same business should be valued in the same way. However, in this case, the devil is often in the details. To do ratio analysis correctly, you have to know a lot about accounting and must adjust for differences in the way a given firm organizes its accounts and business versus others in the same industry. Even firms that are superficially very similar can be very different in terms of strategic choices; factors like whether a restaurant franchises or owns locations, how much debt a firm takes on, etc., can make a big difference in ratio comparisons. The problem is that most people are not educated in the accounting and strategic niceties, so don’t appreciate these important subtleties.

Investment bankers in charge of IPOs and M&A do, in fact, live and die by this kind of ratio analysis, so individuals often get the mistaken impression that they will be more successful investors if they emulate the “pros.” Indeed, ratio analysis done properly does “work” over the investing time horizon that these financial agents care most about. The problem is that the investing time horizon for an investment banker is a matter of weeks or months, whereas an individual investor must be concerned with how their investments will do over a period of years–from the time when they are working and saving to the time they are retiring and drawing down the savings.

Fantasy 3: Fundamental Analysis

Having worked as a fundamental analyst and director of research for many years, I could write volumes about this fantasy. The key assumption behind most fundamental analyses is that the more you know about a company, the more accurate you will be in assessing its value. In a sense, the way most people approach fundamental analysis is akin to a legal form of insider trading–counting the number of cars in a parking lot to get a sense for how holiday shopping season is going, learning all you can about coal processing technology to figure out whether one company has a durable cost advantage over another, and so on.

There are a few problems with this approach. First, individual investors–the principals who are investing their own hard-earned capital–often get the impression that there is no way they can ever learn enough about a company to invest successfully. How can someone with a full-time job, a family, and social obligations spend time learning enough about coal processing technology to make a good decision on buying a coal miner’s stock? Easier to just buy an ETF or a low-load mutual fund and call it good–no wonder that passive investing is so popular!

Second, most fundamental analysts pay a huge amount of attention on figuring out the few short-term drivers they can measure (e.g., how many cars are in a mall parking lot) and almost no time at all on the one factor which has the undeniably largest effect on any fundamental valuations–future growth rates. They end up, then, completely missing the forest (“Should I hold an investment in this company?”) because of all the trees (“A strong early shopping season likely pulled forward demand from the critical holiday shopping season.”).

Third, you might think that getting into the weeds and collecting as much data about a given question will indeed give you an advantage in terms of predictive accuracy, but this has in fact been shown to be untrue in numerous academic studies. The first study of this sort was done in the early 1970s by an academic named Paul Slovic, who asked four groups of horse race handicappers the likelihood of a certain horse winning a race given differing amounts of information. The groups received five, 10, 20, and 40 data points about the horse and race conditions, and were asked to pick the winning horse and give their confidence level about their pick.

The results may surprise you.

Figure 1. Results of Paul Slovic’s Horse Handicapping Study

Amazing! The added data points had absolutely no effect on predictive accuracy, but did in fact materially boost the confidence that each handicapper had in his predictions. This study has been repeated among various professional and non-professional groups (e.g., doctors, pilots, students, stock pickers), and always yields similar results–more information has little effect on accuracy but big effects on self-confidence.

This would be funny if it weren’t so serious and didn’t have such a large impact on investing results. Think about it; when you’re confident in an investment, are you more likely to invest more or less money in it?

Investing Intelligently

I haven’t painted a very pretty picture here–trashing every method investors normally use to make investment decisions. But don’t despair. In my next article, I will explain a simple and effective way to estimate the value of a stock analyzing only a very limited number of data points.
Valuation–as much as pundits try to make it seem difficult– is actually a pretty common sense activity. And even though we may not recognize them as such, examples of successful investing surround us in every moment of our lives. So take heart and stay tuned.

This article originally appeared on Forbes.com