The Two Approaches to Investing in the Stock Market
I bet most of you reading this article would be wondering about investing some money in the stock market amidst this pandemic, and why wouldn’t you? With the prices, almost 50 per cent of all-time high or even lower, the probability of profit over a long period of time is almost cent per cent.
The lockdown in several countries and the increasing death rate (due to COVID 19) led to an increase in the fear of the investors due to which world markets, as well as the Indian market, started to take a hit. Post this fall in the market, the share prices of almost all stocks were trading at much lower prices that many people decided to shift their exposure from gold to equity, thus increasing the number of Demat accounts.
The number of new dematerialized accounts, or Demat accounts, opened during the financial year 2020 was the most in at least a decade at 4.9 million, a 22.5% increase from the 4 million Demat accounts opened in the previous year, showed data from the Securities and Exchange Board of India. – Live Mint
Now let us discuss the approaches to invest in the stock market –
You must be wondering which stocks to pick for better returns and on what basis you should invest in the market? So typically there are two approaches to invest in the market, Fundamental analysis and Technical analysis. Let us discuss these in detail and the differences between them.
Fundamental Analysis - Fundamental analysis (FA) is a method of measuring a security’s intrinsic value by examining related economic and financial factors. Fundamental analysts study anything that can affect the security’s value, from macroeconomic factors such as the state of the economy and industry conditions to microeconomic factors like the effectiveness of the company’s management. The end goal of this is to arrive at a number that an investor can compare with a security’s current price to see whether the security is undervalued or overvalued.
Technical Analysis - Technical analysis (TA) is a method of evaluating securities by analysing the data generated by market activity, such as past prices and volume. Technical analysis just studies supply and demand in a market in an attempt to determine what direction, or trend, will continue in the future. It aims to find out the trend by using past price movements on charts and interpret the market psychology regarding a stock based on these movements. It attempts to understand the emotions in the market by studying the market itself, as opposed to its component.
Now let’s differentiate between these two to understand the approaches in a better way –
Let me give you an example of what an investor intends to do in fundamental analysis –
As we can see here an investor would enter the script at 875 and hold it till long period and probably exit at 1805 to gain 106% gain on capital. Now let’s see what a technical analyst or a trader intends to do and how will he look at the same script.
Now a technical analyst or a trader looks at the chart like this, rather than having an onetime gain, he wishes to earn multiple profits by entering at dips and exiting at highs to earn continuous profit irrespective of the fundamentals of the company.
So which approach should you use? Should you pick fundamentally strong companies for your portfolio or should you pick the stocks suggested by charts?
I personally believe that an investor always earns more than a trader, but using fundamental analysis alone can only provide you with the intrinsic value and quality stocks, which means you will be able to buy only those stocks whose market value is lesser than the intrinsic value, which is quite difficult to find, especially in blue-chip stocks.
I would suggest you use technical analysis along with fundamental analysis as this will help you to time your entry and exit using technical analysis in the companies you feel are fundamentally strong for the long term.
To conclude, the technical analysis used with fundamental analysis can generate you better returns rather than any one of them used individually.
Write-up by: Nikhil Mahanandani
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