Swing trading is a high-risk, high-reward form of trading that requires incredible patience and the ability to predict prices using a certain type of analysis. One of these is called fundamental analysis. But is fundamental analysis needed for swing trading?
Traders use fundamental analysis for swing trading, but it is not necessary. Technical analysis is more commonly used for swing trading. However, fundamental analysis can give more accurate predictions since it accounts for macroeconomic factors as well.
This article explains what fundamental analysis and swing trading are and how fundamental analysis can be used for swing trading. It also explains why fundamental analysis is unnecessary for swing trading and technical analysis is more commonly used.
What Is Fundamental Analysis?
Fundamental analysis involves identifying the intrinsic value of a stock based on factors such as a company’s potential success or failure, political upheavals, and other events that can influence a stock’s price. Unlike technical analysis, it also accounts for factors outside the stock market.
After a trader uses fundamental analysis to determine the intrinsic value of a stock (which is what they think the stock is worth), they can compare that to the stock’s market value (to determine if it’s over- or underpriced and make trading decisions from there.
Traders can use fundamental analysis for swing trading. So what is swing trading?
What Is Swing Trading?
Swing trading is when traders analyze stocks to find ones that they expect to have a significant price change. Traders “long” or “short” these stocks for a short period of time (usually only a few days) in hopes of a relatively fast, large return.
Swing trading is risky, but the rewards are high for the traders who can do it successfully. It’s a highly active form of trading as there’s a lot of data to watch and track before the trades are executed. Once the trades are done, traders need to keep an eye on the traded stocks and buy or sell the stock at the right time to maximize their return and minimize losses.
Some swing traders use technical analysis, while others use fundamental analysis. Let’s talk about how swing traders work with both, and their respective advantages and disadvantages.
Swing Trading and Fundamental Analysis
Although fundamental analysis isn’t needed for swing trading, it has some benefits. Whether it’s used on its own or in conjunction with technical analysis, here’s what you can expect when you use fundamental analysis for swing trading.
- Fundamental analysis provides a reasonably informed basis for buy-sell decisions. In theory, fundamental analysis provides the intrinsic or “actual” value of a stock (however you define “actual” value). That means you won’t buy or sell stocks based on arbitrary numbers. Instead, you take action based on how the intrinsic value compares to the market price.
- Fundamental analysis accounts for a wider range of factors than technical analysis does. As I mentioned earlier, fundamental analysis considers factors such as the company’s likelihood of making a profit, politics, and the general state of the world. So, there’s a good chance that the intrinsic value you calculated via this type of analysis is, in fact, the actual worth of the stock.
Now, let’s talk about the downsides of fundamental analysis for swing trading:
- Fundamental analysis is far more complicated than technical analysis. Because fundamental analysis accounts for more factors than technical analysis does, calculating a stock’s intrinsic value isn’t as straightforward as, say, computing its price-to-earnings ratio. For example, how do you quantify political upheavals? What formula or equation should you use? I’m sure even the best traders can’t agree on that.
- Fundamental analysis isn’t practical for fast-paced trading methods like swing trading. If you want to make the split-second decisions required to make a successful swing trade, you can’t allow yourself to be paralyzed by the many, many factors that investors who use fundamental analysis often consider.
If you’re interested in learning more about fundamental analysis (particularly the technical aspects of it), I recommend the book Security Analysis: Sixth Edition by Benjamin Graham (available on Amazon.com). Even though it was written long ago, its principles are still very much the basis of the investing philosophies of the likes of Warren Buffett — who, as you may know, is arguably one of the most successful stock investors of all time.
Swing Trading and Technical Analysis
While you can use fundamental analysis for swing trading, technical analysis is more commonly used for the following reasons:
- Technical analysis is less focused on the “big picture” and more on how the stock price is expected to change over a short period based on historical data. As a result, swing traders are less likely to suffer from “analysis paralysis” if they use technical analysis.
- Technical analysis works well most of the time because historical data is usually a good indicator of how a stock’s price will change. For example, if Stock ABC has a pattern of skyrocketing in value at the start of every year, it’s likely the trend won’t change any time soon.
On the other hand, technical analysis may not be the best for swing traders because:
- Technical analysis doesn’t account for the unpredictable. Technical analysis works on the assumption that history repeats itself, and that certain events that are highly unlikely to happen (e.g., a global pandemic) cannot ever happen. But, as you probably know by now, sometimes it’s good to account for things that can seem unlikely on the surface.
- Technical analysis doesn’t capture the actual worth of a stock. It’s possible for a company with a low stock price to be profitable and vice versa.
Final Thoughts
You can swing trade without fundamental analysis. Technical analysis works better for swing trading since it’s based on a stock’s historical value, which is usually a good indicator of how the stock price will change over the next few days or even weeks and months.
However, fundamental analysis can be useful too since it looks at big picture factors that may affect a stock’s price like the economy, the company’s financial performance, and political events.
Sources
- Investopedia: Swing Trading
- Investopedia: Fundamental Analysis
- Investopedia: Technical Analysis
- Investopedia: Introduction to Swing Trading
- Lehner Investments: Fundamental vs. Technical Analysis
- Investopedia: Price-to-Earnings (P/E) Ratio