Technical analysis vs. fundamental analysis

It’s interesting how I always get emails from a lot of folks who want to know whether they’re better off using Fundamental Analysis for their trading or Technical Analysis. I recall that I did a full review of Fundamental Analysis and Economic Indicators a little while back and I’m sure this was beneficial to many traders out there.

Today, we will take a look at some broad views on analysing the forex market and indeed, financial markets as a whole. The issue of analysis is very important because that is the bedrock of success in trading any financial instrument. If your analysis is good, then you have a strong chance of being profitable in the forex market.

There are two major schools of thought when it comes to analysing financial markets. We have the Technical analysts and we have the Fundamental analysts. The ‘Technical’ guys base their analysis on price movement mainly; they mostly study charts of the price of the financial instrument and use that to predict where the market is likely to go next. The ‘Fundamental’ guys however believe in using economic data for their analysis.

This simply means that while a Technical trader spends more of his/her time looking at charts and using different kinds of indicators to help him understand the price movement, a Fundamental trader would spend most of his/her time looking at economic reports like interest rate decisions, unemployment data, consumer price index, retail prices etc.

These two schools of thought have been engaged in a long drawn-out battle for supremacy. While the hard-core Technical traders reason that they do not need fundamental analysis since the economic factors are reflected in the exchange rate of a currency and will therefore show up on the charts, the die-hard Fundamental traders argue there’s no need for technical analysis because price charts only show past information which has already been accounted for in the current price and therefore cannot be used to predict future price movement.

If you ponder on that last sentence long enough, it might actually begin to make some sense! In any case, the most important point to note is that both groups have their own unique way of approaching the markets.

There is also the issue of timing. Generally speaking, it takes some time for economic factors to properly reflect in a currency’s value. For example, the fact that unemployment figures start to decline in Nigeria today doesn’t mean that the Naira will instantly begin to strengthen against the US Dollar or any other major currency of the world for that matter. It will often take a little while before we see the effect of such an economic improvement on the value of the Naira.

This basically means that fundamental analysis is more suited to people who are looking to invest over the longer term. Technical analysis on the other hand, is usually employed for very short term trades which could last anywhere from a few minutes (intraday trading) to a few days (swing trading). This also highlights the difference in the use of the terms ‘investor’ and ‘trader’. An investor buys a currency with the goal of capital appreciation over the long term. A trader buys a currency with the aim of selling it for a profit once a suitable opportunity presents itself.

In recent times, a lot of traders have embraced both Fundamental and Technical analysis. It is now very common to find traders who use Fundamental analysis to judge the overall direction of the markets while using Technical analysis to determine their exact entry and exit points.

This is a more comfortable outlook for many traders because forex trading is a game of probabilities and not certainties; the more indicators (Technical and Fundamental) you have pointing in the same direction, the more confidence you have to enter the trade. This is why it might not be expedient to completely discard either school of thought. After all, even the bible says “in the multitude of counselors, there is safety”.

You can get some updates on our technical trading strategies and also keep up with the latest developments by joining our ‘Forex Trading’ group on http://possessor.org for free.

Disclaimer: The information contained in this article is for educational purposes only. Nothing contained or implied here shall be deemed a solicitation or an offer to Buy/Sell traded instruments. No representation is being made that any account will or is likely to achieve profits or losses similar to those shown. Trading involves substantial risk and there is always the potential for loss. Because the risk factor is high in the foreign exchange market trading, only genuine “risk” funds should be used. If you do not have the extra capital that you can afford to lose, you should not trade in the foreign exchange market.

 

Olawale Olowu