6.9 Value of a Combined Method

FUNDAMENTAL ANALYSIS & TECHNICAL ANAYSIS

The debate over which analytical method must be used - fundamental or technical - is never-ending. Both systems provide useful and valuable information. For example, if you are a true-blue fundamental analyst, you will not want to ignore sudden and unexplained changes in a stock’s price volatility. That may indicate important changes growing out of the fundamentals or, perhaps, anticipating fundamental changes. Trading ranges (and thus, price volatility) are related not only to short-term market news and gossip, but also to fundamental changes. Rather than taking the decision to use one method or another exclusively, it makes more sense to take useful intelligence from both sides and use them to confirm trends, anticipate short-term changes, or to judge a stock based on various features.

Example: You are thinking about buying one of three stocks that are comparable on several fundamental measurements. These tests include dividend yield, P/E ratio, working capital and operating trends (sales growth and net profits). You cannot decide which of these stocks would be of lower risk based on the consistency in the fundamental indicators. However, when you begin to view the technical side, you discover that one of the stocks has reasonably low price volatility and a long-established trading range. That range has been moving in a gradual but consistent upward trend for several years. However, the other two stocks show far higher volatility. One has had considerable change in its trading range over the past year, in both directions at different times. The other is so volatile that no trading range is discernible at all.

From this simplified study of the technical indicators, you may conclude that the first of the three stocks is the one with the lowest risk factor. Of course, fundamental analysts will remind you that short-term trends are unreliable and, additionally, looking at historical price movements does not indicate what the future will hold. In other words, there are no guarantees that the assumptions you make about the safety of an investment are always the best guesses. In the market, your best guess — based on using information from both fundamental and technical indicators — is far better than a mere guess. You will not be right 100 per cent of the time, either in stock selection or in the timing of decisions to buy or sell. The purpose of analysis is to improve your averages. If you can be right more often than wrong, you are ahead of the average, and that is the real goal.

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