Stock Market Fundamental Analysis

versus Technical Analysis

University Name: German University in Cairo

Prepared by: Ayman Kamal Moawad (W0906617);

Prepared for: Dr Hussein Soudi

Course Name: Corporate Finance

Table of Contents
Summary………………………………………………………………………………………………….4
Introduction………………………………………………………………………………………………6
Fundamental Analysis………………………………………………………………………………….6
What is It?..................................................................................................................................6
Introduction to Financial Statements…………………………………………………………………7
The Major Statements.........................................................................................................................7
Quantitative Factors……………………………………………………………………………………8
Net Profit Margin.................................................................................................................................8
Earnings Per Share (EPS)......................................................................................................................8
Price/Earnings Ratio (P/E)....................................................................................................................8
Return on Assets (ROA).......................................................................................................................9
Return on Equity (ROE)........................................................................................................................9
Debt-to-Equity.....................................................................................................................................9
Quick Ratio..........................................................................................................................................9
Debt-to-Equity...................................................................................................................................10
Qualitative Factors-The Company…………………………………………………………………..10
Business Model..................................................................................................................................10
Competitive Advantage.....................................................................................................................10
Management.....................................................................................................................................10
Qualitative Factors -The Industry……………………………………………………………………11
Customers..........................................................................................................................................11
Market Share.....................................................................................................................................11
Industry Growth................................................................................................................................11
Competition.......................................................................................................................................11
Technical Analysis…………………………………………………………………………………….11
What is It?................................................................................................................................11
Technical Analysis –The Basic Assumption……………………………………………………….12
1. Price Discounts Everything:...........................................................................................................12
2. Price Moves In Trends....................................................................................................................12
3. Price Movements Are Historically Repetitive.................................................................................13
Price Charts……………………………………………………………………………………………13
Candlesticks.......................................................................................................................................13
Trend & Trend Lines………………………………………………………………………………….13
 UpTrends.........................................................................................................................................13
Downtrends......................................................................................................................................14
SideWays Trend.................................................................................................................................14
TrendLines.........................................................................................................................................14
Channels............................................................................................................................................15
Support & Resistance........................................................................................................................16
Volumes………………………………………………………………………………………………..16
Chart Patterns…………………………………………………………………………………………16
Moving Averages……………………………………………………………………………………17
Conclusions……………………………………………………………………………………………17
Summary
The attempt to predict accurately the future course of stock prices and thus the appropriate time to buy or sell a
stock must rank as one of man’s most persistent endeavors. Most, stock professionals use one of two methods:
technical or fundamental analysis to forecast stock prices.

Technical analysis studies the behavior of the stock or commodity price. The price movements ignore the “why”
of the movement and look for historic patterns to try and predict future movements of the stock by relating present
behavior to past behavior.

Technical analysis does not concern itself with a company's basics or fundamentals. Rather, technical analysis
involves the study of a stock's trading patterns through the use of charts, trend lines, support and resistance
levels, and many other mathematical analysis tools, in order to predict future movements in a stock's price, and to
help identify trading opportunities.

The basic foundations of technical analysis are that a stock's current price discounts all information available in
the market, that price movements are not random, and that patterns in price movements, in very many cases, tend
to repeat themselves or trend in some direction

Fundamental analysis requires a close examination of the financial statements for the company to determine its
current financial strength, future growth and profitability prospects, and current management skills, in order to
estimate whether the stock's price is undervalued or overvalued. Fundamental Analysis takes care of the growth
of the overall economy and the corporation’s operating sector and almost everything that can affect a company’s
ability to supply return to its shareholders, including government taxation and regulation. Investor using these
techniques depends heavily on company’s annual and quarterly earnings reports, the economic, political and
competitive environment facing the company, as well as any current news items or rumors relating to the
company's operations. Many analysts use a combination of techniques to judge whether individual stocks are
attractive for purchase. They use fundamental analysis to decide which stock to buy within each sector and use
fundamental analysis to pick the correct sector during a particular economic cycle. They then use Technical
analysis to assist on the timing of their buy or sell signal.
Introduction
The aim of this report is to give a brief explanation for both fundamental analysis and technical analysis. The
report will cover some of the tools and techniques used by both methods. We will start by the steps for
Fundamental evaluation. Afterwards we will discuss the basic financial statements. I will cover both qualitative and
quantitative fundamental factors which represents the Key factors used by the investor to base his investment
decision. Moving forward we give an overview of technical analysis and the different tools used by the chartist .At
the end of the report there will be a guide for the investor when to use both analysis techniques

Fundamental Analysis
What is it?

Fundamental analysis employs a top down approach that starts with the overall economy and then works down
from industry groups to specific companies. As part of the analysis process industry groups are compared
against other industry groups and companies against other companies. Usually companies in the same group are
compared together. For example, a telecom operator (etisalat) would be compared to another telecom operator
(Mobinil), not to an oil company.

First and foremost in a top-down approach would be an overall evaluation of the general economy. When the
economy expands, most industry groups and companies benefit and grow while when the economy declines,
most sectors and companies usually suffer. Many economists link economic expansion and contraction to the
level of interest rates. Interest rates are seen as a leading indicator for the stock market as well.. Once a scenario
for the overall economy has been developed, an investor can break down the economy into its various industry
groups.

If the prognosis is for an expanding economy, then certain groups are likely to benefit more than others. An
investor can narrow the field to those groups that are best suited to benefit from the current or future economic
environment. If most companies are expected to benefit from an expansion, then risk in equities would be
relatively low and an aggressive growth-oriented strategy might be advisable. A growth strategy might involve the
purchase of technology, biotech, semiconductor and cyclical stocks. If the economy is forecast to contract, an
investor may opt for a more conservative strategy and seek out stable income-oriented companies. A defensive
strategy might involve the purchase of consumer staples, utilities and energy-related stocks.

To assess an industry group's potential, an investor would want to consider the overall growth rate, market size,
and importance to the economy. While the individual company is still important, its industry group is likely to exert
just as much, or more, influence on the stock price.

Once the industry group is chosen, an investor would need to narrow the list of companies before proceeding to a
more detailed analysis. Investors are usually interested in finding the leaders and the innovators within a group.
The first task is to identify the current business and competitive environment within a group as well as the future
trends. How do the companies rank according to market share, product position and competitive advantage?
Who is the current leader and how will changes within the sector affect the current balance of power? What are
the barriers to entry? Success depends on an edge, be it marketing, technology, market share or innovation. A
comparative analysis of the competition within a sector will help identify those companies with an edge and those
most likely to keep it.

With a shortlist of companies, an investor might analyze the resources and capabilities within each company to
identify those companies that are capable of creating and maintaining a competitive advantage. The analysis
could focus on selecting companies with a sensible business plan, solid management and sound financials.

The final step to this analysis process would be to take apart the financial statements and come up with a means
of valuation.

Introduction to Financial Statements

Financial statements are the medium by which a company discloses information concerning its financial
performance. Followers of fundamental analysis use the quantitative information gleaned from financial statements
to make investment decisions. Before we jump into the specifics of the three most important financial statements -
income statements, balance sheets and cash flow statements - we will briefly introduce each financial statement's
specific function, along with where they can be found.

The Major Statements

The Balance Sheet
The balance sheet represents a record of a company's assets, liabilities and equity at a particular point in time.
The balance sheet is named by the fact that a business's financial structure balances in the following manner:
Assets = Liabilities + Shareholders' Equity

Assets represent the resources that the business owns or controls at a given point in time. This includes items
such as cash, inventory, machinery and buildings. The other side of the equation represents the total value of the
financing the company has used to acquire those assets. Financing comes as a result of liabilities or equity.
Liabilities represent debt (which of course must be paid back), while equity represents the total value of money
that the owners have contributed to the business - including retained earnings, which is the profit made in
previous years.

The Income Statement

While the balance sheet takes a snapshot approach in examining a business, the income statement measures a
company's performance over a specific time frame. Technically, you could have a balance sheet for a month or
even a day, but you'll only see public companies report quarterly and annually.
The income statement presents information about revenues, expenses and profit that was generated as a result of
the business' operations for that period.

Statement of Cash Flows

The statement of cash flows represents a record of a business' cash inflows and outflows over a period of time.
Typically, a statement of cash flows focuses on the following cash-related activities:

Operating Cash Flow (OCF): Cash generated from day-to-day business operations

Cash from investing (CFI): Cash used for investing in assets, as well as the proceeds from the sale of other
businesses, equipment or long-term assets

Cash from financing (CFF): Cash paid or received from the issuing and borrowing of funds

Quantitative Factors
Quantitative fundamentals are numeric, measurable characteristics about a business. It’s easy to see that the
biggest source of quantitative data is the financial statements.

In this section will cover some of the important ratios that are used by investor analyze the financial strength of the
companies he is willing to invest in.

Net Profit Margin

 Net income as a percentage of sales. You get this by dividing net income by sales. Since it's a
percentage, it tells you how many cents on each dollar of sales is pure profit.

 The higher a company’s profit margin compared to its competitors, the better.

Earnings Per Share (EPS)

 A very important fundamental, calculated:

 Basically, this will tell you if and how profitable the company is. Preferred stock is a class of ownership in
a corporation with a stated dividend that must be paid before dividends to common stock holders.

Price/Earnings Ratio (P/E)

 One of the favorite ratios, it is simply:
  P/E is referred to as the "multiple," because it shows how much investors are willing to pay per dollar of
earnings.

Return on Assets (ROA)

 Also sometimes called “Return on Investment” or ROI, this is a measure what earnings were generated
from capital investment back into the company.

 IT shows “How much money (income) was generated from a company’s investment into itself (capital
investment or company assets)?”

Return on Equity (ROE)

 It is a measure of how much in earnings a company generates in four quarters compared to its
shareholders' equity and is a good measure of profitability.

 For instance, if XYZ Corp. made $1 million in the past year and has shareholders' equity of $10 million,
then the ROE is 10%. Some use ROE as a screen to find companies that can generate large profits with
little shareholder investment in the company.

Debt-to-Equity
 A relative measure of how much debt a company has:

 Essentially: long-term funds provided by creditors divided by funds provided by shareholders.

 A higher debt/equity ratio generally means that a company has been aggressive in financing its growth
with debt. This can result in volatile earnings.

Quick Ratio
 Like current ratio, this gives a measure of a company’s financial strength:
  It is a measure of how quickly a company's assets can be turned in cash.

 We subtract inventories so we can check and see if a company has sufficient liquid assets to meet short-
term operating needs

Qualitative Factors-The Company

Qualitative factors, by definition, represent aspects of a company's business that are difficult or impossible to
quantify, incorporating that kind of information into a pricing evaluation can be quite difficult. You can't ignore the
less tangible characteristics of a company.

In this section we are going to highlight some of the company-specific qualitative factors that you should be aware
of.

Business Model
The business plan, model, or concept forms the corner stone upon which all else is built. If the plan, model or
concepts stink, there is little hope for the business. For a new business, the questions may be these: Does its
business make sense? Is it feasible? Is there a market? Can a profit be made? For an established business, the
questions may be: Is the company's direction clearly defined? Is the company a leader in the market?

Competitive Advantage
Another business consideration for investors is competitive advantage. A company's long-term success is driven
largely by its ability to maintain a competitive advantage and keep it. When a company can achieve competitive
advantage, its shareholders can be well rewarded for decades.

Management
In order to execute a business plan, a company requires top-quality management. Investors might look at
management to assess their capabilities, strengths and weaknesses. Even the best-laid plans in the most
dynamic industries can go to waste with bad management. Alternatively, even strong management can make for
extraordinary success in a mature industry Some of the questions to ask might include: How talented is the
management team? Do they have a track record? How long have they worked together? Can management deliver
on its promises?
Qualitative Factors -The Industry
Customers
Some companies serve only a handful of customers, while others serve millions. In general, it's a red flag (a
negative) if a business relies on a small number of customers for a large portion of its sales because the loss of
each customer could dramatically affect revenues.

Market Share
Understanding a company's present market share can tell volumes about the company's business. The fact that a
company possesses an 85% market share tells you that it is the largest player in its market by far.

Industry Growth
One way of examining a company's growth potential is to first examine whether the amount of customers in the
overall market will grow this is crucial because without new customers, a company has to steal market share in
order to grow.
In some markets, there is zero or negative growth, a factor demanding careful consideration.

Competition
Simply looking at the number of competitors goes a long way in understanding the competitive landscape for a
company. Industries that have limited barriers to entry and a large number of competing firms create a difficult
operating environment for firms.
Regulation
Certain industries are heavily regulated due to the importance or severity of the industry's products and/or
services. As important as some of these regulations are to the public, they can drastically affect the attractiveness
of a company for investment purposes.

In industries where one or two companies represent the entire industry for a region (such as utility companies),
governments usually specify how much profit each company can make. In these instances, while there is the
potential for sizable profits, they are limited due to regulation.
Technical Analysis
What is it?
Technical analysis is a method of forecasting price movements by looking at purely market-generated data. A
trader who uses technical analysis (sometimes called a technician or chartist) is essentially concerned with two
things;
1) What is the current price?
2) What is the history of price movement?

Basic Assumption
1. Price Discounts Everything:
The price is a sum reflection of all the market forces and participants (“The market knows everything”),
including commercial banks, investment banks, central banks, portfolio managers, buy-side analysts, sell-
side analysts, market strategist, traders, investors, technical analysts, fundamental analysts and many others.
Since all market fundamentals are depicted in the actual market data, the actual market fundamentals and
various factors, such as the differing opinions, hopes, fears, and moods of market participants, need not be
studied.
2. Price Moves In Trends.
Technicians typically do not believe that price fluctuations are random and unpredictable. A technician believes
that it is possible to identify a trend, invest or trade based on the trend and make money as the trend unfolds.
Because technical analysis can be applied to many different timeframes, it is possible to spot both short-term and
long-term trends.
3. Price Movements Are Historically Repetitive.
This result in periodical emerging of the similar price patterns and technical indicators (based on price patterns). These
patterns, generated by price movement, often signify what type of movement is to come in the near future. The goal in technical
analysis is to identify and use these price patterns in the current market to predict what will happen in the future by examining
and quantifying their regular effects in the past.

Price Charts
A price chart is a sequence of prices plotted over a specific time-frame, providing an easy-to-read graphical representation of price
movement.
On the chart, the vertical axis represents the price (or exchange rate) and the horizontal axis represents the time scale. Prices are
plotted from left to right across the horizontal axis with the most recent plot (current price) being the furthest right.
There are three basic types of charts; line chart, bar chart and candlestick chart. Each has a different graphical interface in which is
shows price movement. Candlesticks are the easiest and most informative to use
Candlesticks
Each candlestick represents the value a stock (its price) over a specific period of time. The top and bottom levels of the solid
“body” of the candlestick show the opening price and closing price. If the closing price was lower than the opening price, it's a red
candle (showing a drop in price). If the closing price was higher than the opening price, it is a blue candle (showing an increase in
price).

Trend & Trend Lines

One of the most important concepts in technical analysis is that of trend. A trend is really nothing more than the general direction in
which a security or market is headed.
There are three types of trends

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Up trends
This is indicated by progressively higher highs and higher lows, as shown in the figure below.

Downtrends
This describes the price movement of a financial asset when the overall direction is downward. A formal downtrend occurs when
each successive peak and trough is lower than the ones found earlier in the trend as shown in the figure below

Sideways Trend
This describes the horizontal price movement that occurs when the forces of supply and demand are nearly equal. A sideways
trend is often regarded as a period of consolidation before the price continues in the direction of the previous move.

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Trend Lines
Trends are easily identified by drawing a straight (trend) line from one price low to another price low or, from one price high to
another price high. Trend lines are important because they act as a barrier that the stock’s price has not gone above or below or
has difficulty going above or below.
Every trend line provides a level of support or resistance. Usually, the longer the trend line, the stronger the level of support or
resistance it provides. In an up-trend, the trend line (drawn along the bottom of price lows) acts as the level of support, this
generally prevents price from dropping below that level.

Channels
A channel, or channel lines, is the addition of two parallel trend lines that act as strong areas of support and resistance. The upper
trend line connects a series of highs, while the lower trend line connects a series of lows. A channel can slope upward , downward
or sideways channels are mainly used to illustrate important areas of support and resistance.

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Support & Resistance
As you can see in Figure below, support is the price level through which a stock or market seldom falls (illustrated by the blue
arrows). Resistance, on the other hand, is the price level that a stock or market seldom surpasses (illustrated by the red arrows).

Volumes
Volume is simply the number of shares or contracts that trade over a given period of time, usually a day. The higher the volume the
more active is the security. To determine the movement of the volume (up or down), chartists look at the volume bars that can
usually be found at the bottom of any chart. Volume bars illustrate how many shares have traded per period and show trends in the
same way that prices do.

Volume is an important aspect of technical analysis because it is used to confirm trends and chart patterns. Any price movement
up or down with relatively high volume is seen as a stronger, more relevant move than a similar move with weak volume. Therefore,
if you are looking at a large price movement, you should also examine the volume to see whether it tells the same story.

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Chart Patterns
Chart Patterns are formed by support and resistance levels and by trend lines.
Chart patterns put all buying and selling into perspective by consolidating the forces of supply and demand into a concise picture.
As a complete pictorial record of all trading, chart patterns provide a framework to analyze the battle raging between buyers and
sellers. More importantly, chart patterns and technical analysis can help determine who is winning the battle, allowing traders and
investors to position themselves accordingly.
Chart pattern analysis can be used to make short-term or long-term forecasts. The data can be intraday, daily, weekly or monthly
and the patterns can be as short as one day or as long as many years.
There are two types of patterns within this area of technical analysis, reversal and continuation. A reversal pattern signals that a
prior trend will reverse upon completion of the pattern. A continuation pattern, on the other hand, signals that a trend will continue
once the pattern is complete. These patterns can be found over charts of any timeframe. In the field of technical analysis there are
a plenty of chart patterns each has a certain indication for the traders among those patterns head and shoulders, triangles, flags,
wedge. Below is a figure for one of those important patterns

Moving Averages
Most chart patterns show a lot of variation in price movement. This can make it difficult for traders to get an idea of a security's
overall trend. One simple method traders use to combat this is to apply moving averages. A moving average is the average price of
a security over a set amount of time. By plotting a security's average price, the price movement is smoothed out. Once the day-to-
day fluctuations are removed, traders are better able to identify the true trend and increase the probability that it will work in their
favor.
There are a number of different types of moving averages that vary in the way they are calculated, The three most common types of
moving averages are simple, linear and exponential
Simple Moving Average is the most common method used to calculate the moving average of prices. It simply takes the sum of all
of the past closing prices over the time period and divides the result by the number of prices used in the calculation. For example,
in a 15-day moving average, the last 15 closing prices are added together and then divided by 15. As you can see in Figure

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Conclusions
Fundamental Analysis assumes collecting a big volume of information about company which may include but not limited by earning
reports, spending reports, development reports, company's goal, company's plans and others. This type of analysis requires
gathering information about the industry in which the company operates, what is prospective of this industry and how the company
goes along with industry. As you may imagine this could be a lot of information it could be time consuming to process all this info
for a purpose of generating a trading decision - buy or not to buy stocks of the company.

On the other hand we have technical analysis. Technical analysis is based on the analysis of past performance of the stock and
applying it to the current situation in order to predict possible future trend. This type of analysis mainly includes analysis of the
volume and price charts. If a trader looking forward to make 2-5 trades a day he/she should not bother by fundamental analysis at
all. Intraday traders do not care what is going to happen to the company over the month and if this company is going to exist in a
year at all. All they are interesting in is where the price of the company's shares going to be in 5-20 minutes. These traders could
rely only on technical analysis and this is what they use.

The same could be applied to those traders who intend to make 1-2 trades a week and even 2-3 trades a month. Yet, when it goes
to the mid-term traders who plan to have only 2-3 trades a years, it becomes essential to consult fundamental analysis. If you are
going to hold company's shares for more than 6 months, you need to know a little bit about this company at least.

When it comes to the long-term players - traders who plans to hold company's shares for several years - technical analysis
become less useful and more attention are drugged to the fundamental analysis.

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References
 www.investopedia.com
 A primer on Technical Analysis written by prosignal ,
http://rds.yahoo.com/_ylt=A0geu5SLP45LZOIAVtVXNyoA;_ylu=X3oDMTEzMTlnam43BHNlYwNzcgRwb3MDMQRj
b2xvA2FjMgR2dGlkA0Y3NTVfMTE0/SIG=12mnoaelr/EXP=1267699979/**http
%3a//www.actionforex.com/pdf/a_premier_on_technical_analysis.pdf
 Technical Analysis from A-Z
http://rds.yahoo.com/_ylt=A0geut20P45LMTsBiG1XNyoA;_ylu=X3oDMTE0ODhlMnJzBHNlYwNzcgRwb3MDMTA
EY29sbwNhYzIEdnRpZANGNzU1XzExNA--/SIG=132v9kq2s/EXP=1267700020/**http%3a//www.lind-
waldock.com/traders_catalog/index.cgi%3fcat=book%26va=1%26p=14

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