Technical and Fundamental Analysis – What Are They?

Technical and Fundamental Analysis – What Are They?

This article will help you better understand the types of stock analysis and structure your existing knowledge. We will provide interpretations of the definitions for technical and fundamental analysis, examine the differences between them, and discuss examples of their effective use.

When entering the stock market, every trader and investor aims to preserve and grow their capital. Positive results are possible in only two scenarios: sheer luck or carefully calculated work. While the first is unpredictable, the second can be learned and successfully applied.

In this material, we will discuss two types of stock analysis used by every systematic trader or investor: technical analysis and fundamental analysis.

What Is Technical Analysis?

This type of analysis is based on working with statistical information that emerges from trading an asset on the stock exchange. It considers the cyclicality of events, for which a wide range of data is collected and analyzed. If, under certain conditions, the price has mostly repeated its behavior in the past, traders expect the trend to continue and take a corresponding position.

In technical analysis, traders do not focus on a company’s financial indicators, industry trends, or global economic metrics. This universality allows technical analysis to be effectively used in other markets, such as cryptocurrency and forex.

Key Data for Technical Analysis:

• Current and historical stock prices
• Trading volume over a period
• Market transaction history
• Current market orders from other participants

These data points can be used in their raw form (e.g., candlestick analysis, volume analysis) or through statistical patterns and indicators. Tools analyze a wide range of information, often presented visually on or alongside charts.

Popular Tools in Technical Analysis:

• Support and resistance levels
• Trend direction determination
• Technical indicators: moving averages, oscillators, MACD, Fibonacci levels, etc.
• Candlestick and volume analysis
• Price volatility metrics: volatility levels, percentage changes over periods, ATR, etc.

Identifying price trends, support and resistance zones, and using statistical indicators are key components of technical analysis. (Source: investopedia.com)

However, due to its visual simplicity, technical analysis has accumulated numerous indicators and patterns that lack logical justification. When choosing tools for technical analysis, it is crucial to understand the logic behind them—why a pattern or indicator provides genuinely useful information rather than mere noise. A logical and clear strategy example based on technical analysis principles is the Pump & Dump strategy, materials for which are available in Fondexx’s educational base.

Pattern "Dino": Any resemblance to real technical analysis is coincidental. (Source: Trinkerr_IN, x.com)

Advantages of Technical Analysis:

1. Speed: Many tools provide instant results, requiring little time.
2. Simplicity: Easier execution allows for more trades.
3. Variety of Tools: A wide range of tools enables traders to choose patterns and indicators that meet their needs.
4. Universality: Can be used effectively not only in the stock market but also in derivatives, cryptocurrencies, forex, etc.

Disadvantages:

1. Subjectivity: Patterns and indicators can be interpreted differently, leading to varied decisions.
2. Short-Term Focus: Technical setups are often short-lived, requiring quick reactions and decisions.
3. Limited Long-Term Effectiveness: Accuracy diminishes over longer periods, making it more suitable for intraday or swing trades.
4. Ineffective Tools: Not all technical tools are reliable; traders must carefully choose patterns and indicators.

Expert Insight

Glib Kozak, CEO of Fondexx:
“It’s important to differentiate technical analysis from analysis using technical tools. The internet is flooded with information noise about various technical analyses. Most 'gurus' teach simplistic practices with poor results. If we think of analyzing stock price flows using technical tools, we realize that different algorithmic engines, mathematical approaches, and theories can positively impact portfolio performance. Knowing how to distinguish proper formulations from incorrect ones is the key to success in today’s postmodern world.”

What is Fundamental Analysis?

Fundamental analysis evaluates the potential price changes of a stock by studying the state of the company itself. This method considers a wide range of factors, including the general state of the economy and the company's sector, financial standing, development prospects, and more.

The number of factors for evaluating a company from a fundamental perspective far exceeds those in technical analysis. Every financial metric, economic index, or managerial decision can influence the final judgment about a specific company.

To systematize the factors, they are divided into two categories: macroeconomic and microeconomic. Microeconomic factors are directly influenced by the company and include financial indicators, increased sales and customer base, product development and modernization, etc. Macroeconomic factors affect the entire economy or a specific sector, such as GDP growth, inflation rate, unemployment, central bank interest rates, and so on.

Image Caption
A general algorithm for evaluating a company using fundamental analysis (© www.wallstreetmojo.com).

Factors are assessed and compared step by step, resulting in a hypothesis about the "intrinsic" or "fair" value of a stock — the price it should have based on its current state. This is compared to the current price, and depending on whether the company is "overvalued" or "undervalued," a corresponding position is opened.

Key Data for Fundamental Analysis:

• Company financial statements
• Financial metrics (P/E, EPS, Margin, etc.)
• Macroeconomic data
• Events and news
• Management evaluation
• Competitor indicators

Image Caption
Factors are evaluated in stages, starting with either external factors (Top-down Approach) or internal ones (Bottom-up Approach) (© www.wallstreetmojo.com).

In fundamental analysis, the stock market has significant advantages over other markets due to its strict regulation, transparency, and centralization. Every company listed on a stock exchange is a public and transparent entity. They are required to regularly disclose financial statements and future plans, undergo independent audits, and provide truthful information to shareholders. Failure to comply may result in hefty fines or even imprisonment for company executives.

An example of a strategy based on the principles of fundamental analysis is the proprietary NYSE Earnings strategy by our company's CEO, Hlib Kozak. This material is also part of the FNDXX course lineup and is available to any trader interested in improving their skills in fundamental company analysis.

Advantages of Fundamental Analysis:

1. Thoroughness.
   Fundamental analysis provides an in-depth evaluation of a company, aligning it with macroeconomic trends. This creates a well-grounded perspective.
2. More time for decision-making.
   Unlike technical analysis, preparing and evaluating a company before opening a position in fundamental analysis does not require rapid decision-making.
3. Abundance of informational sources.
   Companies publish quarterly financial reports and outline future plans. Numerous sources aggregate company data, and analytical agencies offer detailed analyses of this data.
4. Scalability.
   Based on fundamental analysis, one can engage in episodic medium-term trades or build a long-term investment portfolio.

Disadvantages:

1. Abstractness.
   Fundamental analysis does not provide precise information about entry conditions, entry points, or when to fix profits. It only results in a hypothesis about price direction over an undefined timeframe.
2. Time-consuming.
   Conducting fundamental analysis is a lengthy process, requiring manual processing of significant amounts of information.
3. Complexity.
   Performing fundamental analysis is much more challenging, requiring expertise in finance, economics, and the company's industry.
4. Information overload.
   There is an overwhelming amount of data for fundamental analysis, and one must filter out irrelevant information to focus on key factors.

Technical Analysis vs. Fundamental Analysis: What’s the Difference?

Both types of stock analysis share the same goal—to predict the future direction of a stock's price. However, it's crucial to understand the key differences between them to use each correctly in various situations and conditions:

Input Data:

• Technical Analysis uses current and historical data generated during asset trading on the stock exchange.
• Fundamental Analysis encompasses a broad range of macro- and microeconomic data about the issuing company and its economic environment.

Methodology:

• Technical Analysis leverages raw data and applies indicators and patterns. Based on the analysis, a hypothesis about the future price movement is formed, leading to opening the appropriate position.
• Fundamental Analysis involves examining financial reports and macroeconomic conditions. Using this data, a hypothesis is formed about the “fair” value of a stock, whether it's undervalued or overvalued, and the corresponding position is opened.

Time Horizon:

• Technical Analysis is used for short- and medium-term trading. Typically, it analyzes data from the past few hours, days, or weeks, with trades lasting from seconds to days.
• Fundamental Analysis is applied for medium- and long-term trading. Decision-making about a company’s “fair” value might involve data spanning several years, with investment horizons ranging from days to years.

Investment Goals and Risks:

• Technical Analysis is utilized in more aggressive intraday and swing strategies, targeting high returns with a high level of risk.
• Fundamental Analysis is used for both medium-term trades and building long-term portfolios. Generally, the risk and return in such strategies are lower.

Which Type of Analysis Should You Choose?

Understanding the key differences between fundamental and technical analysis makes it easier to select the appropriate type for a specific trade. But how do you determine which one suits you best?

It’s important to recognize that these types of analysis are not mutually exclusive and can complement each other effectively. Some investors and asset managers use a combination of both methods to make more informed investment decisions. Fundamental analysis is employed to assess the current state and financial metrics of a company, while technical analysis helps pinpoint the best timing for buying (and later selling) stocks.

"You don’t need to choose; you need to know how to use both types of analysis to achieve different goals." (c) babypips.com

That said, certain situations call for one type of analysis over the other. Consider the following factors:

Trade Frequency:

• If you're considering active trading (intraday or swing), technical analysis is more useful for identifying entry and exit points.
• If you’re a long-term investor planning to hold assets for an extended period, fundamental analysis will be key to evaluating a company’s financial health and prospects.

Trading Style:

• Aggressive traders seeking short-term opportunities often rely on technical analysis.
• Conservative investors focused on stability and long-term preservation of investments lean more toward fundamental analysis.

Type of Assets:

• In some markets, such as cryptocurrency or forex, technical analysis has a significant advantage over fundamental analysis due to limited data for the latter.
• In the stock market, both analyses hold equal weight.

It’s essential to remember that analysis alone is not a complete strategy. For successful and systematic implementation of your analysis, other aspects of trading must also be carefully planned: psychology, risk and money management, analysis of market sentiment, and major events, among others.

Summary

Technical and fundamental analyses represent two different approaches to evaluating the market with the goal of forecasting future movements. Technical analysis works with trading data, while fundamental analysis focuses on financial metrics and macroeconomic trends. Technical analysis is more effective for short-term scenarios, while fundamental analysis provides a broader view. These methods are not mutually exclusive and are often used together—fundamental analysis for identifying global trends and technical analysis for precise entry and exit points.

Our specialists are happy to provide you with more detailed information about these types of analysis and recommend high-quality materials on the topic. Simply register using the link below, and our consultants will contact you shortly.