A common query from new investors is ‘What is fundamental analysis and technical analysis and how do these two analytical approaches differ?’
These are basically two analytical approaches that traders, investors and analysts use to forecast asset prices.
While stock traders and investors use fundamental and technical analysis extensively, these two schools of thought also help predict prices of other assets such as currencies, commodities and debt securities, amongst others.
What is Fundamental Analysis?
Fundamental analysis attempts to forecast the future stock price of a company based on the estimated fair value of its business. The idea is to buy fundamentally sound companies that trade near or at a discount to their fair values.
Fundamental analysis is quite comprehensive. Its scope encompasses a study of company-specific factors as well as systemic factors, which are beyond the control of a company’s management.
Fundamental analysis at a glance
Quantitative factors include:
Qualitative factors include:
Macro-economic factors include:
Sector-specific factors include:
Technical analysis takes into account historical price-volume data of a stock or an index to study the demand-supply position and estimate future price trends. When the price-volume data is plotted on charts for various time frequencies, say a day, week or month, some patterns tend to be formed. These patterns become the foundation for future predictions.
Anecdotally, it’s observed that asset prices often move up or down rhythmically and price-volume history tends to repeat itself following the pattern, rarely though is it identical.
Technical Analysis: the study of chart patterns can offer vital information about:
|Fundamental analysis||Technical analysis|
|Scope||Fundamental analysis is primarily concerned with predicting the business prospects of a company which eventually affect the company’s market value||Technical analysis assumes that everything that can be ascertained by fundamental analysis always reflects in stock prices. And stock prices move in predictable patterns.|
|Suitability||Usually, long-term investors rely heavily on fundamental analysis||Usually, traders use technical analysis to identify suitable entry and exit levels.|
|Advantages||- Helps identify how strong the business model of a company is|
- Helps estimate how reasonable the current market price of a company is with respect to the fair value of the business? And what’s the scope for further appreciation, if any (based on business prospects)
- Fundamental analysis is useful even in the case of companies not traded publicly
|- Helps identify the market sentiment and offers vital insights on stock accumulation and distribution patterns|
- Technical analysis helps generate buying and selling signals purely on chart-pattern strength/weakness. Unlike fundamental analysis, it doesn’t involve extensive evaluation of the underlying business, and thus is less time-consuming.
- Technical analysis studies price-volume patterns objectively and leaves little scope for personal biases in interpretation
|Disadvantages||- In the short-run markets are driven largely by sentiments than business prospects; thus fundamental analysis is ineffective for predicting changes in the market value of a company over a very short term|
- Thorough fundamental analysis is a time-consuming exercise
|- Price manipulations can severely limit the success rate and target accuracy of technical analysis. Thus, traders/investors should be more careful while using technical analysis on smaller and thinly traded companies, especially when they have a narrow shareholding base|
- Technical analysis is not useful when a security/asset isn’t publicly traded
Fundamental analysis and technical analysis are two asset price evaluation approaches. They come with their own advantages and limitations. That being said, fundamental analysis and technical analysis can work wonders in combination.
Unfortunately, many traders/investors who follow technical analysis tend to ignore fundamental analysis and vice-versa.
Use fundamental analysis to identify sound companies and apply the technical analysis to find crucial entry and exit levels for them.
The blog is for information purposes only and anything mentioned herein shouldn’t be construed as a fundamental reason to buy/hold/sell any stock. Furthermore, the information provided in the blog and observations made there from shouldn’t be treated as the extension of recommendations made on the other properties of Ventura Securities. If you follow any research recommendations made by our fundamental or technical experts, you should also read associated risk factors and disclaimers.
We strongly suggest you to consult your financial advisor before taking any decision pertaining to your finances.
We, Ventura Securities Ltd, (SEBI Registration Number INH000001634) its Analysts & Associates with regard to blog article hereby solemnly declare & disclose that:
We do not have any financial interest of any nature in the company. We do not individually or collectively hold 1% or more of the securities of the company. We do not have any other material conflict of interest in the company. We do not act as a market maker in securities of the company. We do not have any directorships or other material relationships with the company.
We do not have any personal interests in the securities of the company. We do not have any past significant relationships with the company such as Investment Banking or other advisory assignments or intermediary relationships. We are not responsible for the risk associated with the investment/disinvestment decision made on the basis of this blog article.