There are various types of market analysis to choose the right trading strategy. Which analysis is better than the others?
Pure technical analysts will absolutely disagree with this idea, namely the fact that macro analysis is fundamental to choose how to invest, both in the short and long term, without making mistakes in trading.
In fact, pure technical analysts, referring to the axioms of the Dow theory, affirm that prices discount everything and, therefore, precisely these contain all the useful information for carry out an exhaustive analysis of movements. This "rule" is correct only in theory, as we do not actually know what data affects the movement of prices. Technical analysis alone is not enough to understand market movements. Let’s see together in this article whether technical analysis or fundamental analysis is more effective.
Do prices discount everything?
“Prices discount everything” is the phrase that embodies the ultimate meaning of technical analysis as we know it today. Basically, the market price at a given time represents and contains all the information relating to that particular financial instrument.
This statement makes sense when it is assumed that the price immediately processes all information relating to the sector and market in which it is involved a given instrument, and more specific to it, regardless of their nature. In practice, the price is always the "right" one.
On the other hand, fundamental analysts think completely differently, as they rely in part on macro analysis. Fundamental analysts, unlike technical analysts, assume that the market price of a specific instrument is in a certain sense "wrong", as it is different from its "fundamental" price. In practice, fundamental analysts evaluate all the information present through:
- mathematical models for the pricing of financial instruments;
- income indicators;
- market analysis in which the instruments to be analyzed are involved.
In short, they don’t look at the charts until they have established a price that represents the “fair value” of a stock. Fundamental analysts look at the last quotation price of the analyzed stock only at the end, when they will have to compare the market price with their "fair value", whose difference will be fundamental for their investment choice.
The latter will be bullish when the analyzed asset will be at a discount compared to the market price, therefore an undervalued asset, vice versa the decision will be bearish when the market price it is lower than the established fair value. This approach seems to be rationally valid and, as with technical analysis, the principle that prices discount everything applies.
In practice, for technical analysts all information is on the chart and prices discount everything the market needs to know, while for fundamental analysts prices do not disclose all the information, assuming that a market it trades precisely because it is the information asymmetries that generate possible windows of profit.
But at the end of this story, who is right? Neither, as such a clear and decisive approach is in total contrast with the random nature of the markets, an environment that requires total and highly adaptive preparation to the different situations that arise every day.
The nature of the markets and the trader
Imagine the markets as a jungle and the trader as a primitive man whose job is to survive. A primitive man, if endowed with a very high adaptability, will have the need to discover, learn and study new methods and new survival strategies.
Attention, before knowing how to deal with certain situations, you will have to experience them on your own skin. Once he has found the right techniques, this man will have the primal duty to optimize them to save energy and time and to concentrate on building his space to defend. Likewise, a trader will need to know how to move in any market situation and adopt the right techniques to survive within a given context.
So there are situations where technical analysis will work perfectly and other situations where it may lose importance in favor of a market reading of macroeconomic or fundamental. In practice, the trader must be able to know as much as possible to survive and will have to experience the different market situations to understand what it means to operate in a given context. The trader must have a specific mental setup in order not to fall prey to his emotions and continue his stay on the markets.
What is the best analysis?
There is no best analysis, but the best analysis mix exists for that particular market context. A trader will first have to experiment with the various market situations, in order to find the right analyzes to develop the techniques best suited to the market context in which he finds himself.
Both technical analysis and fundamental (or macro) analysis are very important tools in certain market phases. The first is the basic analysis to be applied to the market, the second is essential especially when technical analysis begins to lose its effectiveness in the short and long term.
Training is fundamental, improvement and continuous updating represent one of the cornerstones for survival within the markets.
Most of the successful hedge funds, led by notoriously profitable traders, have a "Global Macro" approach, which takes into consideration both technical and basic. I think this is enough to open our eyes to the subject.
Original article published on Money.it Italy 2022-10-20 08:56:00.
Original title: Trading, conviene usare l’analisi tecnica, fondamentale o macro?
