Technical and Fundamentals Analysis

Fundamental analysis and technical analysis are two different schools of thought in approaching the financial markets and forecasting the potential direction the price of an asset might take. They are dramatically different approaches and while many traders subscribe to one school or the other, it is also possible to combine the two for enhanced results in predicting the markets. As you read on, you might get some ideas on how fundamental and technical analysis might be combined successfully in your trading.

What is Fundamental Analysis?

Fundamental analysis is concerned with determining the intrinsic value of an asset. It is most often used with stocks, but can also be used with other asset classes. When using fundamental analysis, traders will look at everything from the big picture of economic development and growth, geo-politics and conditions within an industry of sector. They will also look at smaller details such as the financial strength of a specific company, or the strength of the management team. The fundamental analyst tries to determine the strength of supply and demand for a product, commodity or asset. They will also look at the earnings, liabilities, assets and expenses associated with individual companies.

What is Technical Analysis?

Technical analysis is very different from fundamental analysis as traders attempt to predict the price movement of assets based on statistical trends. This is primarily done through the study of the price and trading volume of a stock or other asset. Technical analysts work under the assumption that all of the fundamental data and news is already known, so it is already priced into the asset. This means fundamentals can be ignored. Instead, the technical analyst will look for patterns in the price of an asset to determine where the price might go in the future. These patterns can provide predictive value based on the past movement of the asset price, or as an indication of the market psychology behind the asset.

The Difference between Fundamental and Technical Analysis

The basic difference between fundamental analysis and technical analysis comes down to what factors determine the price of an asset. Fundamental analysis considers all the external factors such as economic policies, industry trends and the strength of the company financially. Fundamental analysts are concerned with all these factors, how they influence the price of the asset now and what the true value of the asset is based on these factors.

Technical analysis is concerned most with the price action in the assets and with the historical patterns and statistics behind that price. Technical analysis is also concerned with trader psychology to some extent, since the effectiveness of the price actions and patterns used by technical analysts often have explanations grounded in market psychology. Technical analysts concern themselves with price and volume data exclusively.

What are the Benefits of Each?

Fundamental analysis has the benefit of focusing strictly on what a business sort asset is truly worth, without consideration for the current price of that asset. This approach is ideal for long-term investing. It can help to manage risk and can also help with decisions related to asset allocation. Also, over the long-term the decisions made using fundamental analysis tend to have the highest probability of being correct.

Technical analysis allows assets and markets to be quickly analysed and because it is focused on price, it can be used quite effectively to determine price targets. Technical analysis is also most useful for short-term traders since it can identify short-term price moves most effectively. Market sentiment, market psychology, and supply and demand can be seen by looking at a price chart.

What are the Risks of Each?

One of the biggest drawbacks to fundamental analysis is the amount of time it takes. In addition to that, it can be difficult to gain an edge using fundamental analysis, since every trader has access to the same information. Fundamental analysis is also quite poor at uncovering anything about the short-term moves in markets.

One complaint regarding technical analysis is that it is quite subjective. Two analysts will often come to quite different conclusions when looking at the same chart. Also, because there are so many analysis tools, it is not uncommon for a technical trader to become afflicted with analysis paralysis.