Looking for investment advice in NJ? Here at Mullooly Asset Management, I’ve been receiving several inquiries about the differences between fundamental and technical analysis. In this article, we discuss the advantages and disadvantages of each.
Fundamental analysis studies products, markets, management, earnings, market share (among other factors) of a company. Fundamentals help investors spot undervalued opportunities. Fundamental analysis helps identify potential for growth.
Does this make fundamental work better, more important (or more relevant) than Technical analysis?
Generally speaking, technical analysis covers the price action of an investment. Technical Analysis pays little or no matter to a company’s market share, earnings, management or any other fundamental factors. The trend is either moving up or moving down.
To a certain degree, technical analysis assumes (or expects) that all of the fundamental information has already been processed into the decisions made to buy or sell.
In 2010, many Wall Street firms, and the media that follow the markets, still rely on fundamental analysis to declare whether a company’s stock is investment-worthy.
This reliance on fundamental work (indicates to me) that Wall Street — and their clients — still believe an advantage can be gained by speaking directly with company management and following the company activity on a daily basis.
But “human intervention” is what makes fundamental analysis imperfect. In plain terms, “stuff” happens to companies. Products do not sell as well as expected, and yet some new products do much better than expected. Sometimes layoffs occur, or key people leave a company. A merger of two companies may be negotiated behind closed doors, to the surprise of many. And people will occasionally be “less than forthright” (in other words, omit material facts, mislead, gloss over details, or simply lie) about business conditions. And periodically, companies discover an error and need to go back in time to “re-state” earnings for a previous quarter (or previous year).
These are a few examples where the fundamental picture of a company can drastically change. And a company that was under-valued at today’s market price could suddenly be over-valued.
Technical analysis looks at the price and trend, and then paints the picture for all to see. While fundamentals try to “project” or forecast what a company may do in the future, technical analysis indicates what the share price has done in the past, and the current trend of the stock.
Regardless of the news, if more people believe the company is on the right path, they will buy the stock.
If there are more buyers than sellers, there is more demand.
More demand brings a higher price.
If more people believe a company is on the wrong path (regardless of the news), they will sell the stock.
If there are more sellers than buyers, there is more supply.
More supply brings a lower price. Too much supply of anything (tomatoes, houses in New Jersey, shares of a stock for sale) brings lower prices.
Remember, technical analysts believe the reason “why” a stock is rising or falling does not really matter. More on that later.
After all, well-run companies, with great management and spectacular earnings have seen their stock prices collapse. And there are examples of poorly run companies — companies with NO earnings (and some with gigantic losses), where the stock price has skyrocketed.
There is no blanket answer whether fundamental or technical analysis is better. Technical Analysis and Fundamental analysis serve different needs. It is far better to choose investments that have good (or great) fundamentals — and — have a strong technical picture as well.
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