Which Is Better, Fundamental Or Technical Analysis?

Well I guess the answer to that question depends on who you ask. First let's take a look at what Fundamentals are.

The fundamental approach attempts to determine the intrinsic value of a commodity or a stock. A fundamental analyst is interested in things such as earnings, P/E ratios, debt, supply and demand, economic conditions,economic reports etc. The fundamentalist studies the causes of market movement. In my opinion, any significant long lasting move in a commodity or stock is caused by fundamentals not technicals. If a stock or commodity were to have a meaningful rally or decline, most likely there was fundamental reason for the move.

The problem with fundamentals is that it is hard to get accurate data in a timely fashion. Even if the data is accurate, can a trader know how to properly interpret whether the data is bullish or bearish? Assuming a trader is correct that the fundamentals are bullish, we still have the problem of how other traders will interpret the news. Many times bullish fundamentals fail to rally the market and bearish fundamentals actually trigger rallies.

The technician is interested in the effect rather than the cause of market movement. In my opinion technical analysis is another way of studying human psychology by observing price chart patterns. A technician believes that the fundamentals are reflected in the market price. The technical analyst studies things such as chart patterns, trend lines, channels, oscillators, consolidations, volume etc..

One of the strengths of technical analysis is the ability to trade just about any market in any time dimension with just the help of a simple chart. Although that may be very difficult to achieve, it is quite possible. Another strength of technical analysis is that market timing is usually superior to that of the fundamentalist who is usually either early or too late into a market move.

One of the problems I have with technical analysis is that when we chart a series of numbers that have no relationship to supply/demand, those same chart formations appear. For example, if you were to plot on a chart the amount of rainfall here in the United States, those same supply/demand patterns will show up on the chart! You'll see trend line breaks, head and shoulder tops, double bottoms...etc The fact that these "supply/demand" patterns show up in non-supply/demand data, makes me wonder about the validity of such chart patterns. In all my years of following the markets, Larry Williams is the only other author/trader that I am aware of who has made this observation and actually printed it in a book. In fact he talks about this in one of his books entitled The Secret Of Selecting Stocks For Immediate And Substantial Gains. Larry has always been one of my favorite writers and I just want to give credit where credit is due.

So where does that leave a trader. Do we use the fundamentals or the technicals? Well first of all, whoever said it has to be one or the other. My answer is to use a combination of both. I will say that the shorter your holding time, the more you need to focus on the technicals rather than the fundamentals. The opposite is true as well. The longer your time frame, the more of an important role the fundamentals will play.

I use mostly technical analysis in my trading but I like to combine my methods to increase my odds of success. For example, I would NEVER buy a stock just because my little pretty oscillator just crossed up after the market has already moved higher. I will take that oscillator buy signal if I know for example that this is a seasonally strong time of year for this particular stock or maybe the stock is in a very strong uptrend with lots of momentum or the group that this stock is in is breaking out etc.

If you are a fundamentalist and you believe a stock is going to go higher because of the low P/E ratio or maybe you just feel the stock is undervalued, you might want to buy that stock when you get a technical buy signal such as a moving average bullish crossover or maybe something as simple as a four week high which is one of my favorite long term entries.

So my advice is to use both technicals and fundamentals and if you really want to add another dimension to your analysis, begin looking at market sentiment. I think by combining methods you will increase your odds of success dramatically. It doesn't have to be one or the other.