Fundamental vs technical analysis: what's the difference?

What is fundamental analysis?

A fundamental analysis seeks to determine the fair value of an asset. Assets are priced based on both rational factors – like a company's earnings, forward guidance and the macroeconomic context, and irrational factors – like wider market sentiment and media coverage.

By focusing on the former, fundamental traders seek to understand what might be seen as the true value of an asset.

Traders can then determine whether an asset's intrinsic value is higher or lower than the value it's trading at on the market, then seek to make a profit on the assumption that it is undervalued or overvalued.

If the asset is determined to be undervalued, the trader will buy it. If it's overvalued, they may sell it or wait for an opportunity when the asset's real value drops.

For example, when trading shares, a fundamental analyst will look at a company's earnings. Meanwhile, a forex trader would respond to macroeconomic data for the country in question, like GDP or inflation. They will also respond to changes in monetary policy.

While it has short-term applications, a fundamental analysis is usually part of a long-term approach to investing.

What is technical analysis?

A technical analysis concerns the historical movements of an asset to determine an expected future price. Proponents of this type of analysis ultimately believe an asset's chart tells a story.

While a fundamental analysis typically focuses on long-term returns, a technical analysis focuses on optimising a short-term trade. Short-term traders will use a technical analysis when they want to optimise the returns on a trade.

By pre-empting a price movement based on past trends, the trader may be able to find the best entry or exit point for the trade. Technical analysis uses a variety of strategies to determine value, such as moving averages, Fibonacci retracements and Bollinger bands.

Technical analysts will use a 'candlestick' technique to analyse a chart. These are coloured green to denote a bullish movement, or red to indicate a bearish movement in an asset. The size of the candlestick indicates the difference in price between a market's open and close, with protruding lines, known as the 'wick', showing its highest and lowest prices during the trading session.

There are several ways to carry out a technical analysis using candlesticks, but they all typically focus on the pattern that the candlesticks make over a given time period.

Traders will also look at moving averages for a longer-term analysis. This helps smooth out price volatility to allow an investor to identify the direction of a trend in the price movement of an asset.

A commodities trader using a technical analysis might track the 21-day moving average of oil prices and compare this average to the asset's current price. If they determine that it has breached this point, it could be that the price trend has entered a bullish phase and could rise further.

The trader may also look at candlesticks for the energy commodity and compare them with similar patterns in the past to determine an expected future movement.

Key differences between fundamental and technical analysis

The key differences between a fundamental and technical analysis boil down to whether the trader is taking a short or long-term approach to investing, as well as whether they focus on tangible indicators or past performances.

This table demonstrates the differences between a fundamental and technical analysis more specifically.

Fundamental vs technical analysis: which is better?

Pros of fundamental analysis

Fundamental analysis is ideal for identifying long-term trends in an asset, an asset class or wider sectoral trends. Identifying this underlying value can increase confidence that an asset will reach that value over the long run.

Once an investor develops a successful fundamental analysis strategy, they are able to identify value stocks. Traders like Warren Buffett, a major proponent of value investing, have found huge success taking long positions on undervalued stocks following analysis of their fundamentals.

Fundamental analysis can also have some short-term uses, particularly when earnings are released.

Trading increases in volume around earnings season – a period when several stocks in a sector present financial results at the same time – and this increases the volatility of a stock's price.

A strong fundamental investor may be able to identify if a stock's movement is fair based on reactions to its latest financial data, then spot an opportunity to sell or buy shares accordingly.

Cons of fundamental analysis

While value investing can garner returns over the long run, it's not as useful for a day trader outside earnings season. Most short-term movements in a stock depend on irrational factors like market sentiment.

It's also difficult to use a blanket approach to fundamental analysis. This is because sectors have different characteristics that make some more prone to hitting their fair value than others.

For example, the tech sector generally trades at higher P/E ratios on the basis that it is more innovative than other sectors. A trader who invests on the basis of fundamentals may miss out on higher returns by applying this strategy to that sector.

Fundamental analysis also relies on subjective information, particularly around macroeconomic data like expected interest rates or taxation policy. Surprise earnings can also suddenly upset a stock's fair value, so it's not a passive option and a value-based portfolio requires regular reassessments.

Pros of technical analysis

All assets typically have price trends and emit signals at key points. By being able to understand these signals, a trader increases their chances of beating a market to a price movement. This is critical in identifying the appropriate entry and exit points for a trade to maximise returns.

Technical analysis can sometimes become a self-fulfilling prophecy. If enough traders are following the same technical indicators to make trades, it can drive enough volume to that action to influence the asset's price as hoped for.

Being able to accurately identify different technical phenomena accordingly allows a trader to pre-empt a market move.

Cons of technical analysis

While technical analysis helps investors identify trends that might be replicable, it is far from foolproof. All assets are prone to shocks from internal and external factors that can't be predicted by previous price movements.

Traders should ideally use a wide range of indicators before making investment decisions and not rely solely on technical indicators. You should also keep in mind that past performance is not a guaranteed indicator of future returns.

How to combine fundamental and technical analysis

While traders might skew more fundamental or technical in their analysis, it's important to have a grasp of both to avoid blind spots in trading decisions – particularly for those focused on short-term trading.

These methods show how to combine fundamental and technical analysis to improve your available information before engaging in a trading strategy.

Volume trends

Investors might look at the volume of trading that an asset receives to judge how the stock might move in the future.

This technical assessment, focused on market sentiment, helps give an investor an idea about a market's determination of the value of an asset. They will be able to use this to understand whether their own valuation of the asset is appropriate or not.

Rising volume indicates increased attention for a stock, which might suggest a bullish run is beginning. In contrast, falling volume can suggest loss of interest in the asset.

Tracking short-term movements

Fundamental investors focused on value typically care about the long-term value of an asset, but tracking short-term movements can help in achieving a more favourable position when they choose to buy or sell the asset.

Analysts might assess whether a stock has surpassed a key support or resistance point, or they might follow short-term moving averages which, if breached, tend to briefly continue along that trend.

Tracking reactions over time

Fundamental analysts can use a stock's price history to gauge its reaction to repeated events, such as earnings, the release of a macroeconomic date or policy announcements.

For example, housing stocks tend to respond to interest rate announcements. Understanding these price movements can help investors respond to future interest rate announcements.

How to trade using funamental and technical analysis with us

So, how do you go about trading with us using these different analyses?

Learn more about fundamental and technical analysis

Do your own research to find out more about fundamental and technical analysis and determine which approach fits your goals.

Open an account or practise on a demo

Open a CFD account to start trading, or practise with a demo account.

Select your opportunity

When you're ready, decide which type of asset you wish to trade – find it using our search bar.

Choose your position size and manage your risk

Decide how much you wish to trade and for how long. Think about your risk profile and whether the operation is right for you. Introduce stop-losses if necessary. Consider how much you can afford to lose.

Place your deal and monitor your trade

You can trade using CFDs for spot trading, futures and options. While it's possible to trade or invest by other means, CFDs are the only option on our platform.

When trading, you predict whether the price will go up or down, rather than owning the asset outright. You open a position with a margin, which is a fraction of the total trade size – and are therefore at the whim of large swings. This means you run the risk of losing more than your initial deposit.

Fundamental vs technical analysis summed up

• Fundamental analysis focuses on determining the 'fair value' of an asset using financial data, forward guidance and macroeconomic indicators
• A technical indicator uses the historical data of an asset to make assumptions about its future price. There are several approaches for doing this, including MACD indicators and candlestick analysis
• Fundamental analysis is useful for long-term investing and identifying undervalued stocks, while technical analysis is popular with day traders
• Fundamental analysis has its limitations because it isn't very useful for short-term trades and can't be replicated across sectors. Technical analysis isn't reliable and is only based on historical data, so it shouldn't be relied upon for future price predictions
• Fundamental and technical analysis can be combined by studying volume trends and tracking both short-term movements and reactions to an asset over time