Technical analysis focuses exclusively on the study of market action while fundamental analysis focuses on the underlying economic forces of supply and demand that cause prices to move up or down or stay the same. Fundamental analysis focuses on understanding the underlying enterprise – which involves analysing a company’s financial statements, management competence, market share, competitors…etc – and then valuing its shares based on an estimate of the discounted future cashflows it could generate. i.e. Fundamental analysis uses historical and current data to estimate future stock returns and takes into consideration economic data releases, events such as political elections as well as individual company announcements. Technical analysis on the other hand assumes that all of this information is already included into a stock’s price, so all a trader has to do is find out trends in share price movements and volumes to make speculative decisions. Technical analysis studies prices and volume by utilising charts whereas fundamental analysis is more concerned about whether the company is a sound enterprise to invest in.
The reality is that both technical analysis and fundamental analysis are important and can be used together when formulating a trading strategy. Momentum and sentiment matter far more over brief periods than fundamental factors like valuation. However, this isn’t the same as saying that fundamental factors can be disregarded entirely. Technical analysis and charting is actually interesting as theoretically the graph should depict the underlying fundamentals, they are intrinsically linked; as market price tends to lead the known fundamentals. The general principle of technical analysis is that prices tend to fall to points of support, settle and move back up or fall further and rise until they hit resistance and often fall back before continuing their upward journey. Another key advantage of technical analysis is that it applies to all markets so you don’t need to an expert in any one market; for instance a moving average crossover will give the same signal irrespective if you’re looking at crude oil, a forex pair or a stock.