Investors who make their own investment decisions, such as purchasing individual shares, mainly use two analytical methods to make these decisions — technical and fundamental analysis. This article explains the two analysis techniques and the main differences between both methods.
Technical analysis explained
Technical analysis involves the interpretation of the prices of a company’s stocks using various sources of data including statistical indicators and charts to determine the price trends.
This analysis technique relies on past price behaviors and patterns in the direction of stock prices.
Besides, the technical analysis technique relies on the recent trends established by trading breakouts that usually start upward trends in stock prices.
Stock screeners and stock scanners are the best trading tools to monitor technical analysis-based price movement in the financial markets.
Investors should focus on utilizing the best possible tools available right now. For technical analysis and technical analysis-based trading only the best stock scanners should be used. This will save time and it will be the perfect foundation for making the right decision regarding future investments.
It is also needed to act as cost optimized as possible. Long term investors should rely on free stock scanners and free stock screeners. However, day traders or high frequency traders need high end tool instead.
A modern stock scanner can be used for charting, research, analytics and automated trading.
Furthermore, traders should be aware about the fact that the technical analysis methodology only factors in the price of the shares and some technical analysis based conditions and not the overall operation of the company.
Essentially, traders using this method rely on historical data relating to prices to try to predict the supply and demand forces that shift stock prices.
It’s true that when dinosaurs walk in the sand, they leave footprints – in the case of the stock market, dinosaurs represent mutual and hedge funds, and other institutional players.
These players are responsible for the shift in stock prices, and the technical analysis methodology attempts to keep track of the activities of the dinosaurs to be able to predict how the prices will react to their operations.
The underlying reason behind this method is that history tends to repeat itself and that past price patterns such as triangles and cup and handle formations can be used to predict future prices.
There are many technical analysis based trading strategies available. Speculators make use of the immense momentum related to price movements based on news like earnings or merges & acquisitions.
What Is Fundamental analysis?
Fundamental analysis uses real-life business drivers and company key figures to evaluate the financial status of a company. It uses that data to determine the growth capabilities and future trends of the stock prices of those companies.
Investors choose how extensive they conduct the fundamental analysis of the stock prices of a given company. This can be just a few main key figures like EPS and average growth or more complex analysis with hundreds of figures.
By using financial tools such as news-streams and other publicly available information, investors can be able to come up with an accurate and detailed analysis of a company. Excellent sources of such information can be the regulatory bodies such as the SEC, IRS, and more.
Traders who rely on this technique believe that fundamental things about companies have a long-term impact on the prices of their shares.
The business development of a company can lead to short-term fluctuations that impact share prices. The markets usually end up correcting and pricing each stock accordingly. The fundamental analysis attempts to find the true value of stocks by testing whether they’ve been undervalued or overvalues.
For research, free analysis tools for fundamental analysis are being used. The information generated thereof can then help investors to know whether the shares have been overvalued now and that they should wait to buy at a future date when they are undervalued or vice versa.
What are the typically traded assets?
Investors who are actively involved in the analysis of financial markets and who are also building up their own positions instead of using ETFs, mainly use the following three asset classes.
A Stock or equity signifies a form of ownership in a company. When taking a position or a trade, traders are buying a small section of a company.
However, day traders are never interested in understanding whether a company has good products or services before investing, the biggest driver of their decision to buy a stock is the pattern recognition in its prices.
Traders identify the price patterns before they manifest to be able to take advantage of the profits that can be derived from such positions.
Options are not obligatory in nature. Instead, they grant a trader the right to buy or sell a stock at a selected strike price at the expiry date.
Options allow holders to take advantage of the movements in stock prices while maintaining the minimum loss at the cost price of the asset.
Options are derivatives, and their values are dependent on the value of a corporation’s stock. Further, they offer leverage of stock ownership as a smaller part of the cost of a stock, with minimal effects relating to the dollar value.
Just like shares, options are traded on exchanges; however, unlike stocks, Options can lose their entire value upon expiration.
Also known as equity index futures or market futures, Futures are contracts that keep track of benchmark indices such as SP 500. Unlike commodity Futures that require the actual delivery of goods such as sugar, oil, etc., the market index futures are contracts that are settled using cash or rollovers.
Contrary to Options which can completely perish through an expiration, Futures can be rolled over upon expiry to the following period.