Trading and Stock Analysis

Trading and Stock Analysis

Use Fundamental and Technical in Stock Trades

By Dr. Winton Felt

The fundamentals can tell you if a stock represents good value.  However, it is a high-risk move to buy a stock that is undervalued if it is in a strong downtrend.  Likewise, it is also a high-risk move to sell short an overpriced stock that is in a strong rising trend.  Though the fundamentals can help shape your bias toward buying or selling, always use technical analysis (chart reading) to decide when to buy or “pull the trigger.”

Fundamentals are an important influence on a stock’s behavior.  When a stock is in a strong trend, it is usually because of fundamental considerations that the market is bullish about it.  Sometimes traders get wrapped up in the stock’s chart and technical pattern and neglect the fundamentals.  That can be a big mistake.  Good fundamentals are the fuel that enables a stock to sustain its flight.  Without good fundamentals stock trends tend to break down much more quickly.. 

However, expert traders know that it is very risky to bet against the prevailing trend.  If the stock is in a downtrend but it is 40% below its fair value, what do you do?  One thing you should never do is try to “catch a falling knife.”  Remember that the market knows more than any trader or any single analyst.  If the market is saying that the stock should be declining, do not “argue” with the market.  There is a reason that the stock is falling.  The market may be wrong and reverse itself later, but the market itself (and not you) will decide if and when it is wrong.  The same caution is appropriate if a person is considering the short sale of a stock that is grossly overvalued but rising.  Selling short a stock that the market is still endorsing is to be on the wrong side of the market.

The technical pattern can help you determine the probability of a short-term move in either direction, but you should review the fundamentals to help you understand if there is any likelihood that the move you anticipate will have any endurance.  The fundamentals can be used to shape your attitude or bias regarding a stock.  They can help you lean toward either buying or selling a stock.  However, when it comes down to the moment of decision, you must never ignore the chart.  If the fundamentals are great and you want to buy, but you see from the chart that the stock is in free fall, walk away.  However, if the stock has declined to a clear line of support and has begun to rebound off that support, you have both a fundamental and a technical reason to buy.  Even so, you might want to wait for some follow through action by the stock because it may remain in a consolidation pattern for a few months before it begins a climbing trend.  Therefore, you should wait for support for your buying decision from the chart.  The chart can tell you if the stock is in an up-trend or in consolidation. 

Fundamental analysis will not tell you precisely when to “pull the trigger,” but technical analysis can.  The fundamentals can tell you that the stock is maybe 24% below fair value.  Therefore, you know that the stock is likely to eventually work its way up to its fair value.  There is no way to know when this is going to happen.  That’s because fundamental analysis focuses on the financials of the company.  Technical analysis, on the other hand, focuses on stock behavior.  For example, assume the chart shows that a stock broke out of a trading range on heavy volume, rose a day or two, returned to the breakout price level, and is now rebounding off that breakout level on heavy volume.  The chart is telling you to “pull the trigger.”  It is time to buy.  That kind of precision is not possible with Fundamental analysis.  On the other hand, technical analysis cannot tell you that the stock is overvalued or undervalued.  It cannot suggest that a trend is likely to endure for awhile because the stock is undervalued by 28%.

The traders at like to combine the two methodologies.  They believe they get the best results when they so.  Each approach will give its own unique perspective on a stock and on its attractiveness.  When they agree, you are far more likely to be on the right side of the market when you take your position.