Chris Rowe

The Answer to the Age-old Question: Fundamental vs. Technical Analysis?

by Chris Rowe   10/27/09

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Green Lights or Red Flags?

Strong criteria on both ends is critical, and if one of the two is telling you that there is a red flag or a warning sign to watch out for, you should have no problem with dropping a stock that you believe is suspect. Consider stocks that have strong fundamentals AND technical indicators. 

Let's compare the difference between the two.

Investors typically use fundamental analysis to calculate what a company's stock price should be doing. Traders typically use technical analysis to draw conclusions as to what a stock will do based on what the stock is currently doing.

Fundamental Analysis

Fundamental analysis takes a much more in-depth look at a company and the industry that it is in. A fundamental analyst must have much more intimate knowledge of an industry and of the story behind the underlying company. Whether this is an advantage or a disadvantage is up for argument, and has been for ages.

The idea is that a fundamental analyst spends a great deal of time "unwinding" a company's financials to get a clear picture of where the company currently stands.

The fundamental analyst must first study all of the relevant factors that already exist. The next step is to then study the anticipated changes in the company, the industry and the overall economy to try to clarify the picture of what will happen in the future.

Technical Analysis

Fundamentals can tell you a story about a stock, but you can save yourself a lot of time and money by getting a clear look at the technical picture first.

Technical analysis is more superficial and is done mainly on the notion that the story of the company is reflected in the stock chart.

While the fundamental analyst studies the existing public financials, the technician believes that if a company is poised to take off, someone out there already knows it and is already acting on it.

When a large fund starts to act on knowledge of a company, whether the news is public or not, they tend to attempt to acquire a large number of shares without making it very obvious that they know something of value.

This is nearly an impossible task.

A Chart is Worth 1,000 Words

The public record that the technician studies is the chart -- because everything that happens, such as price movement, as well as the size of the trades, is recorded.

Since technical analysis is more often utilized by traders as opposed to investors, it is used to act swiftly without taking as much time as fundamental analysis.

So the benefit for the technician is that he or she only has one step to take. It's a much faster form of analysis that gives them the edge they need to act quickly.

Their main advantage is that they don't have to forecast their indicators like fundamentalists do. For a technician, the indicators are the forecast.

Getting the Whole Picture

Both fundamental and technical analysis is helpful in painting a more complete picture. The two should be used to complement one another instead of pitting one against the other. You can find red flags telling you to get out of a stock before the rest of the herd by using both forms of analysis. 

Using fundamental analysis, several warning signs can be found in the financials if you look closely enough. Sometimes they are warning signs that sophisticated investors will have an easier time seeing, and other times the signs are more obvious to the layman, such as a company that is taking on way too much debt.

Using technical analysis, however, is a great way to spot red flags that a stock might trade lower, based on news that has not yet been made public.

Let's face it; the stock market is not always fair. Oftentimes, someone knows something that will have a huge impact on the price of a stock before the rest of the world knows about it. This is where technical analysis can really give you the edge that you need to save yourself from a loss.

It is for these reasons that we should make sure that we use both forms of analysis when investing our hard-earned money. On the fundamental side, we put in hours, days, weeks or months of research before buying or selling a stock. But, technically, sometimes we see warning signs that tell us to sell for our protection.

You worked hard to get the money in the bank and then transferred into your stock account. You should work just as hard, if not harder, to keep it there.  

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