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How Fundamental Analysis differs from Technical Analysis

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Fundamental versus Technical Analysis

When it comes to investing in the security market, there exist two key techniques that analysts or investors use to arrive at a sound decision. They include Fundamental Analysis and Technical Analysis. Agreeably, when there occurs a difference between two items/techniques, some people advocate for one and despise the other.

With this article, you’ll learn exactly how Fundamental Analysis differs from Technical Analysis.

How they differ

Concept

Fundamental Analysis
Fundamental Analysis

Fundamental Analysis is a technique of financial statement analysis that focuses mostly on the company’s finances such as industry, products, competitors, management as well as macro and micro-economic environment to determine the stock’s intrinsic value. This technique mostly uses both present and past data to predict the way a stock will perform in the future.

Mostly, fundamental Analysis use data from the company’s revenue, profits, expenses, assets, liabilities, equity, cash flow, dividends, book value, earnings per share, and projected earnings growth rate. The key ratios that these metric uses include Price-to-earning ratio (P/E), price to sale (P/S), return on equity, dividend yield, price to book value (P/B), and dividend payout ratio.

Investors and analysts compare both ratios and data to determine the best stock in the security market. Analysts in this technique mostly aim to invest in a company with the best prospects considering the stock’s current price.

Technical Analysis Chart
Technical Analysis

In contrast, Technical Analysis is a metric that uses volume data together with historical price as the primary source of predicting the future life of a financial asset. The future price is predicted by the information deduced from the analysis to forecast the future price.

Despite the many schools of learning Technical Analysis, they all use price trends and price patterns to arrive at the future price. The ultimate idea with this methodology is to determine when the price is likely to move and then trade with the ones with the best ratio possibilities.

Frequently, analysts use overall trend, price momentum, support, and resistance areas in a chart, relative market strength, and sales volume to evaluate the stock’s price. Again, they can use price patterns, examine indicators (for example, put/call ratios) and moving averages.

Time horizon and usage

Fundamental Analysis involves a long process of analyzing the market over certain years or months. The analyst then compares the companies before making any decisions. Remember, you’ve to look for financial statements and the economic factors to determine the assets that will appreciate in the future. Therefore, this kind of analysis is only used by long-term investors.

On the other hand, Technical Analysis doesn’t involve a tedious and tiresome process of analyzing the market. It only focuses on assets that can be transacted at a higher price on short periods like minutes, days, or weeks. So, this technique is used by day traders because making a decision is easy and faster.

Sources of data/information

The intrinsic value in Fundamental Analysis can be deduced from financial statements (such balance sheet, income statement and cash flow statement), profit margin, Price-to-earnings (P/E) ratio, return on equity, among others.

Conversely, analysts in technical analysis obtain their data from charts, resistance and support, technical indicator, and price actions. By support, we mean the point where the analyst views the price to continue rising instead of declining while resistance means a point where the investor sees the price to fall.

Methodology

Fundamental Analysis depends on financial data, company industry, economic outlook, industry trends, and competitor’s performance to determine if the company is worth investing in.

However, Technical Analysis examines market psychology and price movements to make the right decisions.

Main goal

The main goal for Fundamental analysis is to come up with an intrinsic value of a stock.

In contrast to that, the main goal of Technical Analysis is to come up with the right timing to invest or stop investing with regards to the past and current trends.

Function and Suitability

The primary function of Fundamental Analysis is to invest since it takes longer. It predicts long-term values for a company’s security. It only suits analysts who can invest their funds in the long term. They buy a high-value stock, hold them even for years and then sell.

When it comes to Technical analysis, the main aim is to trade since it takes just a short time. It predicts the short-time values of securities. Suitable for traders who buy and sell for short-term profits since they don’t involve buying and holding of securities.

Focus

Fundamental Analysis focuses on the past and the future. Yes, financial statements reflect the past, while other ratios try to forecast the future.

On Technical Analysis, the only focus is on the past. Charts and other indicators are deduced from the past.

Decision making

Decisions in Fundamental Analysis are made following the statistics evaluated as well as the available information. The investor here scrutinizes the financial statements, earnings, growth, company’s management, demand forecasts, among others.

On the contrary, decisions in Technical Analysis are made following the stock price and market trends. In other words, traders here listen to what the market says.

Value of share

In Fundamental Analysis, the fundamentalist must estimate the share’s intrinsic value and then make purchases when the intrinsic value is higher than the market price. He sells the shares when they earn profits, and when the intrinsic value is less than the market’s value of stocks. This indicates that the analyst here works on a long-term basis.

However, in Technical Analysis, the technician doesn’t believe there exists a real value of any stock. The only thing that convinces him/her is the supply and the demand forces. These forces come with rational and irrational factors.

Usefulness

Fundamental Analysis helps in identifying overvalued or undervalued shares, whereas Technical Analysis is mostly useful in timing a sell or buy order.

Price Determination

The future price of a security in Fundamental Analysis is determined by the present and past profitability and performance. Wherein the future prices in Technical Analysis are determined by indicators and charts.

Stock Pricing using Fundamental and Technical Analysis

Bottom line

The above points show how Fundamental Analysis differs from Technical Analysis. Be sure to invest in an asset when the odds are favoring you. Due to the above difference, the best thing to do is to use both techniques to increase your chances of making a sound decision.

Read Also:
Everything You Need to Know About Fundamental Analysis
How to Value a Company using Fundamental Analysis
How to Pick Stocks Using Fundamental Analysis

fundamental analysis
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