Even though popularly believed to be entirely different forms of analysis in the stock market, a closer study proves that the two schools of thought can in fact be used to compliment each other and make surprisingly accurate predictions.
Debates continue to rage about the comparative effectiveness of Fundamental and Technical analysis when conducting a trend analysis. These are the two main schools of thought in stock markets and each has a devoted set of followers. Conflicting views abound on the accuracy of the predictions that can be made from the two forms.
People who swear by Technical analysis, are of the opinion that analysis of the price movements and the study of price actions are enough to take a call on the choice of stock. Conclusions are reached through the study of candlestick graphs, bar graphs and point and figure charting. The main objective is to find out who has the greater edge, the buyer or the seller. Traders championing the use of Technical analysis largely feel that Fundamental analysis plays second fiddle in the game of numbers.
Fundamental analysis on the other hand, is all about the detailed study of reports, balance sheets, ratio analysis and the profit and loss ratio to evaluate the intrinsic value of a stock. Documents like the Balance sheet, the Cash Flow statement and the Income statement become the main determinants for the ultimate result. Fundamental analysis strives to evaluate the basic strength and weakness of the economy, using the Top-Down and Bottom-Up approach.
There is also a difference in time frame. While fundamental analysis studies data and statistics covering a span of many years, technical analysis covers a span of days, weeks and even minutes.
In a nutshell, while Technical analysis decides on WHEN to buy based on price fluctuations, Fundamental analysis determines WHAT to buy based on financial statements. While the former predicts the future price movements, the latter predicts the future health of the stock. They don’t result in binary outcomes. In fact, these two schools of thought are simply two sides of the same coin. And if combined effectively when conducting a trend analysis, can become a very powerful tool indeed. If a stock is evaluated through these dual means, the chances of making accurate assumptions and predictions can skyrocket.
A fundamental analyst tries to evaluate the intrinsic value of the company. The investment decision is based on a simple logic- that if the price of the stock is below its intrinsic value, then it is a good investment. And vice versa. But in certain cases this over-simplification can backfire.
Similarly, a technical analyst overlooks the company’s prospects and values, making the mistake of depending fully on the prevailing emotions of the market. For technical analysts, the past trading actions become the main determinant for forecasting the future price of an investment.
However as it turns out, oil and water CAN mix. And the result can be highly rewarding. A technical analyst can use fundamentals to strengthen his technical hunch while a fundamental analyst can avail of technical data to determine the best time to purchase an undervalued security. The use of the two schools of analysis can provide a best case scenario for a trade. Thus it is safe to assume that the two schools of analysis are not polar opposites, but can in fact be used in tandem for profitable trading.
This article was syndicated from Business 2 Community: Technical vs Fundamental Analysis – Solving The Ultimate Trend Analysis Conundrum
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