Fundamental or technical analysis – perhaps something in between?

Financial market participants new to the game of investing or trading should think carefully about whether they approach the subject matter focusing either on fundamental analysis or technical analysis or an integrated approach.

Technical analysis is easy to define: it basically involves the study of past and present market prices in an attempt to forecast the direction of future prices. However, with fundamental analysis (in its traditional sense) the definition becomes a little blurry as one analyses whatever factors one expects to eventually have an impact on market prices. Therefore, for the purpose of this discussion, I would like to expand the definition to incorporate the analyses of underlying factors as well as how financial market participants interact with those factors (as implied by market prices), thinking more in terms of a “strategic” analysis.

I would like to outline two reasons why an integrated approach is desirable, where fundamental analysis decides the broad strategy (direction and position size) and technical analysis the tactics (entries and exits).

First: What do the world’s top traders such as George Soros, Bruce Kovner and Paul Tudor Jones have in common? Two answers are immediately apparent: they are all listed on the Forbes Billionaire List; and they all use an integrated approach.

Second: central bankers. Judging by the reactions of the market to fundamental news announcements, one can argue that central bankers are one of the most important pieces of the puzzle. It is somewhat amusing that some traders who swear to be purely technical in their approach are the first to react to the release of such information.

Central bankers most certainly do not use technical analysis in their decision making process, although the state of markets does enter the equation; however, most of their decision making does involve a specific type of “fundamentals” analysis, not necessarily the type taught in business school.

Furthermore, given the fact that they do not necessarily have any more information at hand than what the public is able to obtain, the key question becomes how they actually string together all these bits of information to derive their decisions and news blabber. Thus, there is a clear advantage to be gained over one’s competitors by learning to think like a central banker instead of just being a reactionary market participant.

In conclusion, why should one limit oneself to one or the other and treat this as a mutually exclusive choice if a balanced approach between technical analysis and some in depth strategic analysis of fundamentals clearly reaps much better results?