Difference between Fundamental and Technical Analysis
Fundamental Analysis includes a study of the factors that influence a company’s stock price, including financial statements, management processes, and industry conditions. Its goal is to analyse the intrinsic value of the firm and determine if the stock is undervalued or overvalued. Where, Technical Analysis utilizes historical charts, patterns, and trends to predict future price movements of the entity.
Fundamental Vs Technical Analysis
|BASIS FOR COMPARISON
|The practice of Fundamental Analysis involves analysing securities by evaluating the intrinsic value of stocks.
|Using charts to identify patterns and trends, technical analysis is a methodology employed to predict the future price of a stock.
|Long term investment
|Short term investment
|To find out the intrinsic value of the stock
|To get the right entry or right exit the market.
|Investment decisions are made based on the available information and the evaluation of relevant statistics.
|Investment decisions are influenced by market trends and stock prices.
|Both past and present data
|Type of Data
|News events, Economic reports and industrial statistic
|Analysis of charts
|Predictions based on past and present performance and profitability of the company
|Prediction based on past performance of stock price behaviour, patterns and indicators
What is Fundamental analysis?
Fundamental Analysis involves the study of the fundamental factors that impact the economy, industry, and company.
Its purpose is to assess the true intrinsic value of a stock by considering various economic, financial, and qualitative factors. This analysis helps to identify opportunities where the share value differs from its current market price.
Fundamental analysis evaluates all the factors, both macroeconomic and organization-specific, that can impact the value of a security.
These factors, referred to as fundamentals, include financial statements, management, competition, and the business concept, among others. The goal of fundamental analysis is to analyse the overall economy, the industry in which the security operates, the business environment, and the specific firm itself.
Fundamental analysis operates under the assumption that there exists a delay in the influence of these fundamentals on share prices. Therefore, in the short term, stock prices may not align with their intrinsic value, but over the long term, they tend to adjust accordingly.
The analysis typically involves three phases:
- The Economy: The first phase of fundamental analysis involves analysing the general economic status and condition of the country. This is done by examining various economic indicators.
- The Industry: The second phase of fundamental analysis involves determining the prospects of different industry classifications. This is achieved through conducting a competitive analysis of industries and analysing the industry life cycle.
- The company: The third phase of fundamental analysis aims to assess the financial and non-financial characteristics of the firm to make decisions on whether to buy, sell, or hold shares of the company. This involves analysing factors such as sales, profitability, and earnings per share (EPS), as well as evaluating management quality, corporate image, and product quality.
What is Technical Analysis?
Technical Analysis is used to predict the price of a share by analysing the interaction of demand and supply forces within the marketplace. It relies on past performance statistics of the share to forecast the future market price.
Initially, the fluctuations in the stock price are examined to gain insights into how the price will evolve in the future. The price at which the buyer and seller agree to finalize the transaction represents a value that incorporates and reflects all relevant factors.
This value is the ultimate determinant in the market. In addition, technical analysis provides a holistic understanding of the reasons behind price fluctuations in security, offering a clear and comprehensive perspective.
The Main Tools of Technical Analysis are:
- Prices: The change in the price of a stock is a reflection of the shift in investor sentiment and the dynamics of supply and demand in the market.
- Time: The extent of price movement is determined by the duration it takes for a trend reversal to occur. In other words, the time it takes for a trend to reverse will directly impact the price change.
- Volume: The magnitude of price changes can be observed through the transaction volume associated with the change. If there is a small change in the transaction volume despite a change in the share price, it can be inferred that the change is not particularly significant or powerful.
- Width: The quality of price change is evaluated by determining whether the shift in trend is widespread across multiple industries or limited to a few specific securities. This assessment indicates the extent to which changes in security prices align with the overall market trend.
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Key Differences Between Fundamental and Technical Analysis
The distinction between fundamental and technical analysis can be clearly outlined based on the following criteria:
- Time Horizon: Fundamental Analysis uses longer periods to analyse stocks, whereas Technical Analysis is focused on shorter-term trading.
- Objective: Fundamental Analysis is used for investment purposes, aiming to identify stocks with long-term value growth. Technical Analysis is utilized for trading, seeking short-term profit opportunities.
- Decision-Making: Fundamental Analysis relies on available information and statistical evaluation, while Technical Analysis is based on market trends and stock prices.
- Data Consideration: Fundamental Analysis incorporates both past and present data, whereas Technical Analysis primarily relies on past data.
- Basis of Analysis: Fundamental Analysis is based on financial statements, such as income statements, balance sheets, and cash flow statements. Technical Analysis is centred on chart patterns, price actions, technical indicators, resistance and support levels.
- Intrinsic Value vs. Price Trends: Fundamental Analysis focuses on determining the intrinsic value of a stock, while Technical Analysis aims to identify the right entry and exit points based on price trends.
- Future Price Determination: Fundamental Analysis considers past and present company performance and profitability to estimate future stock prices. Technical Analysis relies on charts and indicators to forecast future prices.
- User Types: Fundamental Analysis is commonly used by long-term position traders, while Technical Analysis is employed by swing traders and short-term day traders.
Fundamental analysis focuses on identifying the intrinsic value of a stock through the analysis of financial statements and industry conditions, while technical analysis relies on historical charts and patterns to predict future price movements. Fundamental analysis is ideal for long-term investments, while technical analysis is suited for short-term trading. Both approaches offer valuable insights and can be used together to make better investment decisions.