Fundamental Analysis
What is fundamental analysis?
Fundamental analysis (FA) is a method of measuring the intrinsic value of a security by examining its economic and financial factors. Fundamental analysts study everything that can affect the value of a stock, from macroeconomic factors such as the state of the economy and industry conditions to microeconomic factors such as the efficiency of business management.
The ultimate goal is to find a number that an investor can compare to the current price of a stock to see if the stock is undervalued or overvalued.
This method of stock analysis is considered to be different from technical analysis, which predicts price direction through analysis of historical market data such as price and volume.
KEY SUMMARY
Fundamental analysis is a method of determining the actual or “fair market” value of a security. Fundamental analysts look for stocks that are currently trading at prices above or below their real value. If the fair market value is greater than the market price, the security is considered undervalued and a buy recommendation is given. Conversely, technical analysts ignore the fundamentals in favor of a study of the historical evolution of share prices.
Understanding Fundamental Analysis
A comprehensive stock market analysis seeks to determine whether a stock is valued correctly in a larger market. Fundamental analysis is usually done from a macro-to-micro perspective to identify stocks that are not adequately valued by the market.
Analysts generally study, in order, the general state of the economy and therefore the strength of the specific sector before focusing on the performance of individual companies to arrive at a fair market value for the stock.
Fundamental analysis uses publicly available data to assess the value of a stock or any other type of security. For example, an investor can perform a fundamental analysis of the value of a bond by examining economic factors such as interest rates and the general state of the economy, then studying information about the bond issuer. ‘obligation, such as potential changes in one’s credit rating.
For stocks, the fundamental analysis uses income, earnings, future growth, return on equity, profit margins, and other data to determine a company’s underlying value and potential for profit. future growth.
Investment and Fundamental Analysis
An analyst works to create a model to determine the estimated value of a company’s stock price based on publicly available data. This value is only an estimate, the analyst’s informed opinion, of what the company’s stock price should be worth relative to the current market price. Some analysts may refer to their estimated price as the business’s intrinsic value.
If an analyst calculates that the stock’s value should be significantly higher than the current stock price, he may issue a buy or overweight rating for the stock. This serves as a recommendation to investors who follow this analyst. If the analyst calculates an intrinsic value lower than the current market price, the stock is considered overvalued and a sell or underweight recommendation is issued.
Investors who follow these recommendations expect to be able to buy stocks with favourable recommendations because those stocks should have a greater likelihood of going up over time. Likewise, poorly rated securities should have a greater chance of falling prices. These securities can be removed from existing portfolios or added as “short” positions.
This method of stock analysis is considered the opposite of technical analysis, which predicts the direction of the price through analysis of historical market data such as price and volume. Those interested in learning more about fundamental analysis and other financial topics may consider enrolling in one of the best investing courses available today.
Examples of fundamental analysis
Take the Coca-Cola company, for example. No Coca-Cola analysis is complete without taking into account its notoriety. Anyone can start a business that sells sugar and water, but few businesses are known to billions of people. It’s hard to say precisely how much the Coca-Cola brand is worth, but you can rest assured that it is an essential ingredient that contributes to the business’s continued success.
Fundamental analysis would begin by assessing the value of CocaCola’s assets, income streams, debts and liabilities. CSIMarket, a popular source for financial research, begins by comparing objective metrics such as revenue, profit, and growth, particularly in the context of the beverage industry.
Noting that Coca-Cola’s revenue grew 41% in the second quarter of 2021 when the beverage industry as a whole only saw revenue growth of 25%, a fundamental analyst might infer that the Coca-Cola company is in a better position to obtain gains in the current market environment compared to the average for companies in the same sector.
Who uses fundamental analysis?
Fundamental analysis is widely used by long-term and value-oriented investors to identify well-valued stocks and those with good prospects. Equity analysts will also use fundamental analysis to generate price targets and recommendations to clients (eg buy, hold, or sell).
Business leaders and financial accountants will also use economic analysis to analyze and increase a business’s operational efficiency and profitability and benchmark the company against the competition. Warren Buffett, one of the world’s most renowned value investors, is a proponent of fundamental analysis.
Does Fundamental Analysis Still Work?
No. Like any other investment strategy or technique, fundamental analysis is not always successful.The fact that the fundamentals show that a stock is undervalued does not guarantee that its stocks will soon reach their intrinsic value. Things are not that simple. In fact, the behavior of real prices is influenced by a myriad of factors that can undermine fundamental analysis.
Investors and analysts often use a combination of fundamental, technical and quantitative analysis to assess a company’s potential for growth and profitability.
