Technical Analysis vs
The argument for technical analysis vs fundamental analysis often comes up when people examine the available methods for making money in the stock market.
Is one type of analysis better than the other? Should you concentrate on one method? Can they be used together?
Letâs investigate . . .
Technical analysis defined
Technical analysis is the study of a stockâs price and volume data. Its purpose is to determine which way a stock is likely to move in the near future.
The stock chart is the weapon of choice for this type of analysis.
There are a few different types of technical analysis, but generally speaking, itâs used to evaluate trends, identify significant price levels, and ultimately locate trade entry and exit points.
Technical analysis can also be used to select stocks to trade.
Fundamental analysis defined
Fundamental analysis is the study of a companyâs financial details. Its purpose is to determine whether a company would make a good investment based on an assessment of its financial health, potential for profitability, growth prospects, and the value of the company compared to the price of its shares.
The balance sheet, profit & loss statement, and cash flow statement are the focus of this type of analysis.
Fundamental analysis can also include a consideration of a companyâs âstoryâ. To examine a companyâs story you look at what it does, how it makes its money, and how it is positioned to perform in the future given the current economic climate.
Comparing the two types of analysis
No discussion on technical analysis vs fundamental analysis would be complete without considering the pros and cons of each one.
Technical analysis advantages
Technical analysis is based on objective data. You can look at a stock chart and plainly see whatâs happening right now. You can see which direction the price is moving in. You can see how popular the stock is based on its volume characteristics.
Technical analysis disadvantages
Technical analysis doesnât care about the company behind the stock. You might want to know what industry the company is in, but apart from that, the underlying company isnât really a concern.
The company might be carrying more debt than it can handle, its revenues and cash flows might be weak, and it might not even be making a profit â who knows? Technical analysis doesnât concern itself with such matters.
Conclusion: For most investors, technical analysis is about âtimingâ your entries and exits. For traders using technical analysis exclusively (i.e. no fundamental analysis), they also use technical analysis to determine which stocks to buy.
Fundamental analysis advantages
Fundamental analysis gives you an idea of what a companyâs future prospects are likely to be. Large institutional investors like to buy shares in companies with good fundamentals.
Fundamental analysis disadvantages
The timing of the financial statements used with fundamental analysis can sometimes cause problems. If you get the information too late you might end up buying the stock after it leaves the buy zone.
Also, do the numbers make sense? Do they tell a story, or do they just add to the confusion?
Conclusion: Fundamental analysis is useful for stock selection. It isn’t ideal for determining entry and exit points, and for this reason, itâs mostly used by the long-term buy and hold crowd.
Combining the merits of TA and FA
Technical analysis vs fundamental analysis â is this the right question to be asking in the first place?
Some people use only one type of analysis and thatâs fine. As long as theyâre making money, I donât think it really matters. Personally though, I like to use both methods of analysis.
I use fundamental analysis as an initial filter to determine what to buy. The second part of my stock filtering process uses technical analysis. Once Iâve found a batch of fundamentally sound stocks, I analyze those stocks further to find the ones with the best stock chart patterns. Itâs a two-tiered filtering approach.
When will I buy and when will I sell? Thatâs where technical analysis comes in.
To sum up
The argument for technical analysis vs fundamental analysis isnât really valid when you understand that each method of analysis can be useful depending on your approach to making money in the stock market.
You can use either or both methods. Itâs really up to you.
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