Fundamental analysis and technical analysis are the two broad,
general approaches to market analysis and trading. Each approach
has its advantages and disadvantages,
When it involves stock analysis, there are 2 main factors are involved:
1. Fundamental analysis
Fundamental analysis aims at identifying the real, intrinsic value of
a security, based on the belief that the genuine value of something
is what will ultimately determine its price.
Fundamental market analysts attempt to identify a stock or other security’s intrinsic value by looking at factors such as
- Overall economic conditions
- Industry trends
- Company management
- Profit and loss data, and
- Financial metrics that are used to determine the financial health
- Future prospects for a company
Some of the most commonly used financial ratios by fundamental analysis are the price-to-earnings ratio (P/E), price-to-book ratio (P/B), debt-to-equity ratio(D/E), return on investment (ROI), and return on assets (ROA).
Fundamental stock traders rely heavily on data such as a company’s quarterly and annual earnings reports, to see the earnings-per-share which indicates a company’s profitability as divided among the total amount of publicly-traded equity in the company.
Additional data for analysis by fundamental analyst is
gained from the published financial statements of publicly traded
companies, such as a company’s income statement and balance
Experts of fundamental analysis point out that it is based on solid financial data, and therefore likely to be reliable.
However, a drawback of fundamental analysis is that it requires time consuming research, and doing things like financial modeling and company valuations is not interesting job to many investors.
2. Technical analysis
Technical analysts ignore all of the factors considered by fundamental analysts, and instead concentrate their evaluation of a security solely on analyzing market price action in order to identify current and likely future price trends.
The basic belief of technical
traders is that all relevant factors of supply and demand are reflected in the price movement of a security.
Technical traders argue, for example, that there’s no need to engage in the practice of fundamental traders attempting to assess whether current economic or marketplace conditions favor increasing demand for a company’s products – Instead, technical traders would say that if
the company’s stock price is rising steadily, then that shows that
their products are in increasing demand.
The basic tool of technical analysts is the price chart. Technical
analysts look at all manner of data that can be plotted on a price
chart for a security, such as trend lines, trading volume, moving
averages, and support and resistance levels.
Technical analysts don’t bother attempting to identify intrinsic value of security, instead using chart analysis to identify price action patterns that indicate probable future price direction and movement.
Both the strength and the weakness of technical analysis lie in the
fact that there is virtually an endless list of technical indicators to
choose from in analyzing a security.
That’s strength because you
have a wealth of price analysis tools at your disposal to help you
determine probable future price movements. It’s a weakness
because of the fact that you can get an endless number of conflicting indications and trading signals from different technical indicators. Among the endless choices of indicators to look at such as
- Moving averages
- Candlestick patterns
- Momentum indicators
- Pivot points
How do you know what to pay
attention to? And the simple answer is: you don’t.
Technical traders select the indicators they use based on any number of reasons, and then hope that those indicators are the ones giving the most reliable trading signals.
So Which One Should You Use Fundamental or Technical Analysis?
Fundamental analysis is all regarding using concrete info about a company’s business to do to search out the real worth of stock, whereas technical analysis eschews all of that in favor of viewing the way pure market factors will have an effect on a stock’s movement.
Investors who use technical analysis shake their heads in disapproval when they see fundamental analysts poring over spreadsheets and financial statements.
They, like index investors, see all the effort that goes into the fundamental analysis as a waste of time and calculator batteries.
That’s because technical analysts assume that any information worth knowing is reflected in a stock price.
But technical analysts agree with fundamental analysts in one important way:
They, too, think it’s possible to beat the stock market. Unlike index investors, who think that timing the market is futile, technical analysts think stock prices move up and down in observable patterns.
Knowing how to recognize patterns in stock price movements can signal a technical analyst the best times to get in, and out, of stocks. Technical analysts may not even care what a company does since they’re just looking at the price chart.
To a technical analyst, buying and selling at the right time is more important than buying and selling the right stock.
Many traders use some combination of fundamental and technical
analysis. For example, a stock trader might select companies to
invest in based on fundamental analysis of market sectors and
various companies, but select specific price entry and exit points
based on technical analysis.