Fundamental analysis is the study of the causes of economic events. In contrast to technical analysis, fundamental studies possess predictive power over the longer term. Although technical tools are necessary for establishing precision and acquiring a higher level, fundamental analysis is the only tool that can add the rigor of causality to trade decisions.
Fundamental Analysis is not news trading
Many traders confuse fundamental analysis with news trading. When short term news trading strategies fail (and they will fail frequently) they blame the failure on fundamental methods. But in fact FA has very little to do with news trading, since it is almost impossible to evaluate a news release correctly in the span of the few minutes during which the market reaction takes place. Fundamental analysis is all about the creation and exploitation of the big picture for trading decisions. News trading is about the exploitation of the mostly random fluctuations that occur after major releases.
Since fundamental analysis rarely yields exact values for entry/exit points, even the most ardent follower of a fundamental approach must sooner or later resort to numerical tools in order to structure his trade decisions efficiently. So being a fundamental trader does not imply that you cannot use technical tools, but only that while using them you must subordinate them to what the big picture tells you.
FA works best in the longer term
Price action is mostly chaotic and meaningless from a fundamental point of view in the short term, unless there is infusion of new data with long term consequences. As the time period of a trade widens, market action begins to reflect fundamental realities at a much more closely. Interest rate decisions by the Federal Reserve, or the non-farm payrolls release, for example, remain relevant for many months and quarters after they are made public. It doesn’t make sense to assume that the impact of such important and long-term information can be discounted in the few minutes that follow the release, as commonly believed by news traders.
Fundamental studies are not just for professionals
The necessity of comprehending a large number of data and combining different sources of information has made some traders wary of using fundamental methods. Although it’s true that mastery of FA takes some time, fundamental analysis is not an esoteric discipline, of interest to academics alone. It is a practical and useful tool that can help traders organize, plan, and execute their trades far more effectively by placing them in a causal framework.
You can improve your trading just by taking note of major events, or carefully exploring the changes in the interest rate differential between central banks. Although primitive, even this much will be far more effective than the blind application of technical analysis to each day’s price action.
Fundamental analysis may not be very precise about when the prices will turn, but it is quite clear and concise in explaining if and why they will. The degree of subjectivity is also smaller in the case of an unbiased, unemotional analyst than what is observed with TV commentators and others. It is beyond doubt that any of us will improve his skills by a wide margin by studying the fundamental approach. The large number of successful fundamental traders all over the world attests to this fact with greater power than any amount of words would do.
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