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Fundamental, Technical, And Quantitative Analysis Compared

Controversy, deeply disparaging perspectives, and the stifling of new theories swirls around the three most critical areas of stock analysis. Each analytical theory has merits and flaws, obscure concepts that lack empirical evidence to prove or disprove the theories, and yet each also has universally accepted principles that have stood the test of time as well as history.

Each type of stock analysis is so utterly unique from the other that it is extremely rare to see any analyst who incorporates all three into their analytics. Yet logic and common sense should dictate that a coalescence of all three would substantially improve stock analysis for all Market Participant Groups.

Fundamental, Technical, and Quantitative Analysis are separated by a great divide in use, interpretation, acceptance, and popularity. All three analyses are actively used by different Market Participant Groups yet not one dominates with consistent success over time for all groups. Certain Market Participant Groups only use Fundamental Analysis, others strictly Technical Analysis, or Quantitative Analysis. This creates a vast separation between the disciplines and beliefs used in providing the professional and retail side of the market with reliable analysis reporting.

With the growth of Giant Data in the Financial Services Industry the enormous disparity between the three contra-distinct forms of stock analysis creates deep opinionated divides between Market Participant Groups. This divide also thwarts progress in developing new analytical tools, and threatens the success of integrating a method of using Giant Data for improving stock analysis. In addition none of the three analyses can claim total success by itself.

Fundamental Analysis

There was once only one way to analyze a stock and its company and that was by employing various financial analysis and news, which became known as "Fundamental Analysis." This remains the benchmark methodology with random walks through company facilities, and the efficient market theory still the standard in all financial services organizations and all university degree programs.

Fundamental Analysis is flawed in that it has never been able to anticipate or prepare for sudden market collapses, unexplained Shifts of Sentimentâ„¢ or volatility in the marketplace that seems totally unrelated to the company financials. As examples, Fundamental Analysis should have been able to forecast the banking debacle, and stocks may plummet on good news with no viable fundamental explanation.

The most basic flaw of Fundamental Analysis is that it is unable to protect investors, especially long term investors from catastrophic losses. Proponents cling to the notion that just holding long term will solve all the flaws of this theory. That is no comfort to retirees who find their life savings gone with one huge market sell-off. When reliable Fundamental Analysis is needed most, it fails to deliver the vital information needed to protect capital. It functions best in an uptrending long term Bull Market, and fails during Bear Markets.

Technical Analysis

Technical Analysis has been around since the 1890's when Charles Dow wrote his series of articles which became the Dow Theory along with his creation of the first stock index the Dow 12 Industrial Average. Later created was the Dow 30 which is still used today, and is considered one of the most important indexes gauging whether it is a Bull or Bear Market condition. Technical Analysis never became as popular as Fundamental Analysis, remaining a fringe theory and concept for most of the 20th century.

For every one professional technical analyst, there are now 700 professional fundamental analysts. However Technical Analysis has been embraced, and is used extensively by the individual investor and retail trader. Technical Analysis has made its way into Fundamental Analysis in ways such as the 250 and 50 day moving average crossover, the 52 week high, and other commonly used points of reference for stock price evaluation by fundamentalists.

The major flaw with Technical Analysis is how its earliest advocates attempted to introduce it to a fundamentally based mindset of the long term investment community of that day. The first technical analysts attempted to claim that Technical Analysis could predict the future. This lead to severe skepticism among fundamentalists who know future predictions are hit and miss, and this alienated many fundamentalist groups from even considering technical analysis. The other flaw of early technical theory was that every theory whether it had empirical evidence or not was integrated into Technical Analysis theory, books, and papers which ultimately weakened the entire body of this analysis. Some of the earliest theories that are still taught today have no empirical evidence or historical proven documentation, yet are still part of the body of work represented as Technical Analysis.

Quantitative Analysis

The most recent and most controversial analysis is Quantitative Analysis which exploded onto the stock market during the past decade. It caused massive chaos for many prior theories about stock price action, stock analysis, and analytics in general. This analysis attempts to Quantify price action for stocks and indexes into precise mathematical equations. This has proven to be as unreliable in topping and bottoming markets, which are the most crucial of the market turns to recognize early.

Quantitative Analysis was embraced by a new breed of Market Participants with high speed capabilities, as well as the Hedge Fund industry which believed Quantitative Analysis would provide a cutting edge lead on competitors. Quantitative Analysis is still in its infancy with less than 20 years of testing, use, and development. It was used prior to any testing of the theories or algorithms in the real market environment, and this was the primary flaw when advocates introduced its theories to the market.

Quantitative Analysis also has suffered severe skepticism in recent years because it was the primary culprit of the 2008 banking debacle. Quant formulas and algorithms basically gave banks, Financial Services companies, and Mutual Fund Institutions "false positive" analytics. This fueled more speculative trading and investing in Real Estate, Credit Default Swaps, and high risk trading instruments. The "false positive" analytics culminated in a near catastrophic banking implosion.

The Financial Markets worldwide learned the hard way that computer analysis of stocks, portfolios, trading instruments, and the general market are not superior to humans. The mistake made was that those who used Quantitative Analysis extensively believed that eliminating the "human emotion quotient" would result in the most reliable of all analytical tools ever developed. Their denial that a computer was not superior to a human but merely another tool led to the development of intrinsically flawed theories, and the poorly constructed Quantitative formulation and programming was never even considered until after the fact. The other problem was the fact that the Quants were young individuals, lacking experience in the stock market, and did not calculate downside risk.

The flaw of Quantitative Analysis is too much dependency on a machine, and misconception of the role and functionality of human emotions in successful investing or trading. This problem persists today for Quantitative Analysis, and is similar to the chronic failed predictions of Technical Analysis and the conflicting price movement of Fundamental Analysis against known financial data.

Summary:

The most damaging of all of the assumptions about these three types of stock analysis is that they can't function together, that one is better alone, or that the other two are not worth considering or incorporating at least in some conservative methodology. The great divide is the opinions of the stanch unmovable camps of each analysis group.

Incorporating all three provides a far superior and more reliable approach to stock analysis, because each one has a purpose and usefulness. The combination of the three yields a far greater understanding of stock price action, trend, sustainability, reliability, volatility, and velocity for all components of stock investing or trading. This new form of analysis will have the superior edge over those who only use one.

Relational Analysis

This is the evolution of stock analysis that incorporates the 4 primary analyses used today by the most important Market Participant Groups the Sell Side Institutions, and in particular the Buy Side Institutions. Relational Analysis includes Technical Analysis, Fundamental Analysis, Quantitative Analysis, and Risk Analysis all within the graphical format of candlestick charts. This allows retail traders and individual investors to know which of the 9 Market Participants is actively in the instrument, and who is controlling price at that time. Since the Giant Buy Side Institutions dominate and create bottoms and tops, learning to track these institutions has become mandatory for success in the automated market of today.

I invite you to visit my website at www.technitrader.com

Trade Wisely,

Martha Stokes CMT

Chartered Market Technician
Instructor and Developer of TechniTrader Stock & Option Courses

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Disclosure: The author has no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.

Disclosure: The author has no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.