Technical and Fundamental Analysis

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Technical and fundamental analysis provide unique ways of evaluating stock performance, and are often both used by traders when making trading decisions. The more data one can include in their evaluation of a company's performance, the better.

Technical Analysis


Technical Analysis generally uses a stock's price and volume as its key data. Looking back over recent historical price and volume, technical analysis can be used to determined price patterns, trends, rate of increase or decrease, and price direction relative to the overall market. There are in fact many ways of evaluating historical prices.

Over the years, analysts have created hundreds of formulas used to evaluate price performance. Relative Strength Index, Stochastics, MACD, and Moving Averages are some of the most common formulas, although new formulas are being created and published regularly. Some of the first technical analysis formulas were the Japanese Candlestick Patterns used by the Japanese to trade rice over 150 years ago.
Prices are typically organized into bars based on a specific time interval. For example, with end-of-day (EOD) prices, a vertical bar will extend from the day's low price to the day's high price. The open price will display as a notch on the left side of the bar, and the close price will display as a notch on the right side of the bar. This method of charting is known as OHLC bars. Intraday traders use shorter intervals, such as 1-minute or 5-minute bars, with the open, high, low, and close prices representing the values within each time interval.

With computers now widely available to the individual trader, charts are a common method of using technical analysis. Traders can easily view historical prices as well as various technical analysis formulas on their chart. Drawing tools are often available as well, allowing the trader to highlight certain areas, check support and resistance levels, and examine price movements to a very fine degree.

Fundamental Analysis

Unlike technical analysis, which evaluates price and volume data, fundamental analysis evaluates a company's earnings reports, considering data such as Earnings Per Share, Market Cap, Profit Margin, and Growth Rate. Most fundamental data is reported in quarterly and annual reports, so the data isn't as timely as technical price and volume data.

There are many things that can be evaluated with fundamental analysis. Traders might choose to invest in companies that have high growth rates, or perhaps companies that distribute large dividends. Such fundamentals imply that a company is doing well and may be a good investment.

Fundamental Analysis

One of the more common values in fundamental analysis actually uses a combination of fundamental and technical data. The Price/Earnings Ratio (or P/E Ratio) is calculated by taking the current price and dividing by the Earnings Per Share (EPS). This ratio provides a common benchmark for how well a stock is priced, relative to its EPS. A common benchmark is a P/E Ratio of 20, with ratios higher than that indicating the stock may be overpriced, and ratios lower than that indicating a possible bargain.

Combined Technical and Fundamental Analysis

While straight technical analysis is helpful for making short trades, and fundamental analysis is helpful for making longer term investment decisions, some traders employ both methods at the same time. For example, traders might first select a group of stocks that have strong fundamentals, such as high growth rates and increasing earnings. Such stocks might be considered good long-term investments on their fundamentals alone. But by then looking at the technical data, and identifying periods in which those stocks are undervalued, traders can purchase a stock at a bargain price with good odds of the price rising in the near future.

While there are a variety of software packages available to traders, only some of them offer the option of evaluating both technical and fundamental data. A couple of them, such as StrataSearch, allow traders to evaluate technical data and historical fundamental data. Evaluating historical fundamental data can be important, as it allows traders to back test their ideas prior to making any trades.

Both technical analysis and fundamental analysis are helpful ways of evaluating stock data, and determining when the ideal buy and sell points are. When technical and fundamental analysis are combined, however, traders get the benefits of both worlds. And that's the type of trading edge that serious traders should explore.