NEW YORK ( TheStreet) -- When it comes time to make investment

decisions, it's a good idea to be guided by more than just your gut
instincts. If used effectively, fundamental analysis is one of the most
useful ways to determine whether a company is a good investment
choice. Even if you don't have a finance background, don't let that
stop you from becoming your own personal stock portfolio analyst.

Fundamental vs. Technical

When it comes to stock analysis, there are two main schools:
Fundamental analysis and technical analysis. Fundamental analysis
is all about using concrete information about a company's business
to try to find the real value of a stock, while technical analysis
eschews all of that in favor of looking at the way pure market factors
will affect a stock's movement.
They

call

it

fundamental

analysis

for

reason:

It

can

be fundamental to your ability to make money in the stock market.

When you take a look at a company's fundamentals, you're judging
its corporate health. After all, who wants to invest in an unhealthy
company? This is a mantra that the likes of ber-investor Warren
Buffett uses, so why shouldn't you?

Business Basics
Before you begin to analyze public companies for their investment
potential,

you'll

need

to

understand

some

business

basics,

particularly those relating to thecompany's financial statements.

Financial statements are to an analyst what a patient's bloodwork
might be to a doctor; they're the main data points that can be used
to assess overall health. There are three principal financial
statements: Theincome statement, balance sheet, and statement of
cash flows.

The income statement subtracts expenses from revenue to get the

company's income or profit. The balance sheet compares a
company's assets against its liabilities and stockholders' equity
(they balance each other, hence the name of the statement). Lastly,
the statement of cash flows breaks down money taken in and doled
out by its purpose (for example, operating, financing, or investing
activities).
Financial statements are integral to fundamental analysis since they
provide you with the numbers you'll make use of in your analysis.
But numbers aren't everything in fundamental analysis. In addition
to quantitative performance measures (like the numbers you'll find
in the statements), companies provide investors with a wealth of
qualitative information as well. In every public company's annual
report,

management

has

an

opportunity

to

explain

their

performance (or lack thereof) over the past year as well as plans for
the future.
This management communication shouldn't be taken lightly. It could
provide you with an understanding of why numbers were the way
they

were

and

what

to

expect

in

the

future

("Talking

to

Management, Part 1: The Big Questions , Part 2: Gleaning Financial

Subtleties ").

What Is Performance?
When you hear about a company's fundamental performance, its
stock price doesn't really enter into the equation. In the context of
fundamental analysis, performance refers to the efficiency with
which a company moves toward its goals. The degree of that
performance is what we use to categorize a company as healthy
(investment potential) or unhealthy (investment poison).
Depending on what metric you're looking at, performance can be
measured in a number of different ways. If you want to look at a

company as a whole, then its ability to generate a profit is a sensible

measure to review (see earnings). However, if you want to be more
specific in your assessment, you can be. For example, if you want to
check the performance of certain assets, then you would want to
look at a metric like return on assets (ROA).
There are several numbers and ratios that can be used to gauge a
company's performance. Metrics like the price-to-earnings ratio
( "Booyah Breakdown: The Ratio King" ), earnings per share and
gross margin are all useful in determining a company's relative
health.
Compare Comparable Companies
When comparing the performance of two companies, it is important
to remember that comparisons aren't absolute. For example, looking
at a technology company like Google, whose P/E on any given day
is almost four times as high as that ofU.S. Steel, won't tell you as
much as you'd think. While a lower P/E is generally more favorable
(suggesting that a company with a given stock price takes in greater
profits), U.S. Steel is in the basic materials sector, which as a group
doesn't trade with a P/E comparable to the tech sector.
So how should you, the burgeoning analyst, approach metrics? Like
this: Use ratios and comparisons only among comparable companies
in comparable industries or sectors (" Industries vs. Sectors: What's
the Difference? "). For example, whileeBay's fundamentals might
make it look like a pig (a bloated and overvalued stock) compared
to The Bank of New York's fundamentals, the two aren't in
comparable fields, so the intrinsic value of each stock is no clearer
for your comparative effort.
(More

suitable

comparisons

be Amazon.com or Yahoo!,

for

whileJPMorgan

America would work for the Bank of New York.)

Analyze Like a Pro

eBay

would

Chase or Bank

of

One of the big ideas behind fundamental analysis is that you're

buying the stock to get the financial benefits of owning a prosperous
company (see equity), not for the quick and dirty capital gains
sought by daytraders.
Fundamental analysts strive to find companies whose intrinsic value
is greater than or will be greater than its market value (this market
approach is commonly referred to as "value stock" investing).
What's the key to using fundamental analysis like a professional?
Benchmarking. Benchmarking is essentially the process of observing
standards against which you can measure the stock you're
analyzing. Unfortunately, there are no hard and fast rules for
fundamental analysis, which is why even the professionals get
things wrong every once in a while.
The best way to strengthen your fundamental analysis skills is
through practice. How? Benchmark stocks, develop opinions about
them, and analyze the results. Benchmarking, specifically, takes
work (no doubt) but it's also the only way to get a feel for the way
"good" fundamentals should look.
Homework Time:
Here are a few valuable activities you can do to hone your
fundamentals skills:
1. Track two stocks for three months. Pick one stock you like
instinctively and one you don't. Take a look at the fundamentals of
each, and try to make an objective decision about each stock based
on those fundamentals alone. Keep a record of how each pick
progresses from selection to the three-month mark.
2. Create a fundamental checklist. Take the ratios, numbers, and
other information you use the most, and write them all down on a
sheet of paper. Make copies, and use this checklist (or "cheat
sheet") whenever you analyze a stock. This will help you keep a
handle on all the data you'll be reviewing on a regular basis.

3. Build your benchmarks. Every time you analyze a stock you're

interested in (using your handy new cheat sheet), take a look at no
less than one other player in the same industry to use as a
benchmark. As you build a larger mental library of benchmarks,
you'll likely find even greater success with fundamentals.
At the time of publication, Elmerraji had no positions in any of the stocks
mentioned in this column, although positions may change at any time. Jonas
Elmerraji is the founder and publisher of Growfolio.com, an online business
magazine for young investors.

TECHNICAL ANALYSIS

BALTIMORE (Stockpickr) -- Some people think you can make money

by drawing a couple of squiggles on a chart? You've got to be
kidding me.
Is technical analysis the Holy Grail for investors? Or is it just tea leaf
reading?
It shouldn't come as a surprise that talking about investing
strategies brings up strong emotions among their practitioners. After
all, people's money is on the line. But few topics draw the same
polar degrees of ire and praise that technical analysis does. The
thing is, many of the biggest TA critics don't really understand how
technicians actually use their toolbox to make money in the
markets.
Today, we'll seek to bust technical analysis myths by shining a
pragmatic light on this investing discipline.
Clearly, an exhaustive debate about the usefulness of technical
analysis (or fundamental analysis, for that matter) could never be
achieved in a single article. That said, Ill attempt to scratch the

surface, debunking some of the more prevalent myths in the

technical analysis world.
First, though, let's define exactly what technical analysis is. At its
core, technical analysis is the study of the market itself, rather than
the goods that trade in the market, in determining the investmentworthiness of a security. While fundamental analysts focus on a
company's business to try and get at the share price of its stock,
technicians are primarily concerned with price and volume and with
the supply and demand factors that actually move shares.
With that definition in mind, let's take a look at some of the biggest
myths.
Myth 1: Past Prices Aren't Useful for Predicting Future Prices
One of the most biting criticisms of technical analysis is the idea
that there's no way past prices can be a crystal ball for future prices.
But that argument is seriously flawed.
Anyone who's ever bought a stock can attest to the psychological
impact of watching a position's gains climb or losses mount. It's
human nature. That's a good indicator that entry prices do have at
least some impact on future behavior. Remember, we judge our
performance by comparing a stock's current price against our entry
-- and those entry prices are past prices. Because investors' entry
prices have a lot to do with their eventual decisions to close their
positions (or buy more), it's naive to think that past prices dont
have some impact on how a stock trades in the future.
No, it's not that past prices magically work their way into future
prices that's important. Rather, past prices are significant because
they are the best way we have to identify pockets of supply and

demand

in

the

market.

So we've established that past prices do impact future prices to

some extent. But can you predict future prices with a chart alone?
I certainly can't.
I'll concede that technical analysis doesn't make predictions -- but
bear with me. The problem with this claim is that the word
"prediction" conjures up crystal-ball-style connotations. Technicals
aren't a crystal ball, and I don't know a single professional trader or
analyst who believes they are.
In practice, technical analysis is a way to find high-probability
setups in reaction to the market -- trading setups that factor in
potential price barriers such as supply, demand and market
mechanics and that give the trader cues about the market move
with the highest likelihood. Charts can't help a trader predict a
stoc's exact day-to-day price movement for the next five years, but
they can help generate consistently profitable trades with preset
price targets and stop loss levels.
Technicals can help you identify important levels on a stock's price
chart and then react when something actionable happens.
As an investor, there's a difference between being right and making
money. Predictions are great for people who like being right, but
technical tools are more valuable for investors who like making
money in reaction to important market moves.
Myth 2: Academics Say Technicals Dont Work

In the past, academia hasnt been kind to technical analysis.

According to prevailing financial and economic models such as
Efficient Market Hypothesis and Random Walk Theory, technicals
can't work.
But what most critics leave out is the fact that under those models
fundamental analysis tools can't work either.
While those traditional academic models have been powerful
arguments against technicals in the past, new research suggests
that EMH and RWT are seriously flawed. Academic research as early
as 1996 noted the fact that real-world market behavior (namely the
existence of trends and occurrences of market crashes) makes
Random Walk Theory statistically impossible. Similar results have
been found to be the case with Efficient Market Hypothesis, which
essentially claims that all available information is immediately
priced into shares.
In reality, as events like 2008's market meltdown show us
anecdotally that it's really how investors feel about that information
that's reflected in share prices.
In the past, one of the biggest issues with academic studies of
technical analysis has been the fact that the academics conducting
the

studies

weren't

particularly

good

at

developing

realistic

technical trading systems to their studies. Now, as technical trading

becomes more widely understood, academic studies are showing
statistically significant outperformance from technical strategies.
Maybe even more importantly for retail investors, new work is
showing that applying very simple technical strategies to buy-andhold index investing can dramatically reduce risk and improve

returns net of transaction fees. You don't need to be an active

investor to benefit from TA.
Myth 3: The Biggest Investors Don't Use Technical Analysis
The idea that technical analysis isn't used at major funds and
institutional settings is a common one, but it's another that's
factually untrue. While fundamentally driven funds do certainly
dominate the institutional landscape, nearly ever major institutional
investment firm has a technical research group -- and all institutions
employ trading floors filled with technical traders.
Even though purely technical funds and ETFs have only come onto
the scene more recently, some of the most successful investors and
traders have risen to prominence using an exclusively technical
strategy. Big names include the likes of Richard Dennis and Paul
Tudor Jones. Even fundamental analysis icons such as Graham and
Dodd made mention of technically driven factors in their explanation
of the markets.
Ultimately, the merit of any investment strategy should be based on
the successes of its best practitioners -- not the failure of those who
dont fully understand it. Plenty of institutional fund managers use
technicals as one of their inputs in making investment decisions.
And interestingly enough, the TA proponents actually significantly
outperform their peers.
According to research done by David Smith, Christophe Faugre and
Ying Wang, at the University of Albany and Kedge Business School
Bordeaux,

"With

performance

respect

advantage

to
of

mean
technical

and

median

analysis

is

values,

the

slight,

but

statistically significant. The contrast appears more salient during

down markets, and when performance is measured relative to a

primary benchmark."
Here's what that outperformance looks like in dollar terms:

A Pragmatic Approach to Technical Trading

While technical analysis has become very popular in recent years,
there are still a number of pervasive myths about technical trading
that throw people off. Technical analysis doesn't use price as a way
to magically peer into the future, it doesn't contradict the latest
academic market models, and technicals are being used to
successfully manage substantial institutional assets.
It's worth noting that technical and fundamental analysis aren't
mutually exclusive investing strategies. In fact, they're quite
complementary.

No

single

investment

strategy

is

going

to

outperform in every single market condition, but if you're a

fundamental investor, adding some simple technical tools to your

arsenal

can

help

you

beat

the

market during

times

when

outperformance is hard to find. And technicals can also help you

limit your risk when the floor falls out of the market.