When a person steps into stock-market investment, he or she may get confused about how to decide whether the current price at which the shares of a particular company are being traded are right or he should wait further.
How he or she can find the the perfect company to be invested in?How to find whether the stock prices will show Bullish trend(increase in stock price) or Bearish trend(decrease in the price of shares)?
With these questions in the mind,which themselves seem humongous mountains to be crossed over,you do some of your research stuff on google or ask someone else in your contacts.With this little bit investigation, you get to know that trading in stock market and gaining profits is also a skill in itself.And to master this skill ,their are two research methods.
Then you start finding ,"What id Fundamental and Technical Analysis".Searching this, you landed here to get to know everything about Fundamental Analysis. In this article, we will discuss some of the basic ways to analyse the stock market or other markets.
✍ What is Fundamental Analysis
✍ How to do Fundamental Analysis
✍ Earnings per share(ESP's)
✍ (P/E)Price to Earning Ratio
✍ PEG Ratio
✍ Dividend Payout Ratio
✍ Dividend Yield
✍ (P/S) Price to Sales Ratio
✍ Book Value
✍ Return on Equity
✍ Fundamental vs Technical Analysis
✍ pdf to download
What is Fundamental AnalysisFundamental Analysis of stocks is all about analysing the foundations of the company.Unlike it's technical counterpart, Fundamental Analyst does not believe in studying the technical charts, candelstick charts ,indicators like ichimoku cloud or the previous market behaviours which are dependent on the cummulative trading by the whole stock investor community.
Fundamental Analyst believe that a company with strong base, work ethics, and strong management will never lead it's investors to loss in long run.They do not worry about whatever the current scenario be.If a company with firm basic structure is not performing upto the desired level at the stock-market, it will definitely gravitate towards it’s profits soon.
Generally, Fundamental analysis is followed by the investors who are going to put their money for longer term.This is not what an Intraday trader or a short term trader can use.
How to do fundamental analysisBefore we move further , i would suggest you to read this book - " The intelligent investor " , which is written by the mentor of Mr. warren buffett.This article provides you only the glimpse of some tools, the book will provide you the whole concept of fundamental analysis. For making the complete analysis of a company, you need to have a decent knowledge of economics, how markets work, how government policies can affect a particular company.You have to keep yourself updated about the latest policies that are being followed by the company.
Biggest part of Fundamental Analysis involves delving into financial statements. It involves looking at the assets ,liabilities ,revenue,expenses and all other financial aspects of a company which we call as quantitative analysis.But we can call quantitative analysis just a number crunching and analyzing a company is much more than this.
The major aim of all this is to get an approximation of the intrinsic value of the stocks of a particular company. Intrinsic Value is a name given to price of the stock which an analyst consider to be the actual value of that stock, no matter at what price it is being traded at the national exchanges .It is a common belief among traders that the stock price will definitely try to move towards it’s intrinsic value when the current major news affecting the stock movements will fade with time.If the current price of a stock is being traded below the intrinsic value(as of guess made by the traders), it can be considered a right time to buy that stock.
Though there is a vast ocean of the factors that affect a company’s stock prices, I have tried to list all the major tools that you can consider while trying to make Fundamental Analysis in stock market.
1) Earning Per Share(ESP’s)We can take this term to describe the profit earned by the company per share.It tells us the contribution of each outstanding share to the net income generated by the company.It can be considered as a company’s yardstick of it’s profitability and the trader can get an idea whether it is a safe bet to invest in the company.
This becomes easier and becomes helpful in comparing one company to the other.Taking an example,let us assume that there are two companies A & B.Company A had earnings of Rs.1000 with 50 outstanding shares , while company B had earnings of Rs.1000 with 80 outstanding shares.
Now,if we calculate the Earning per Share of company A,it comes to be 1000/50 =Rs.20 and ESP for company B is Rs.12.5. Here we can see that company A would be better than B in term’s of ESP.It can be defined in two ways:
- Weighted ESP
P/E Ratio of stocksP/E Ratio of stocks is a ratio of share price of the company and the earning per share. Suppose I want to invest in share market and again I compare the company A and B. Assume that the shares of both companies are being traded at Rs.100 and the ESP values of company A and B respectively are 20 and 12.5 .
Now, P/E (company A) = 100/20 = 5
P/E(company B) = 100/12.5 = 8
Now, which company can be considered better here . Let us understand ,
P/E ratio of company A suggest that you need to invest Rs.5 to get profit of Rs.1 in a year. While for company B , for a profit Re.1, you need to invest Rs.8
If a company is not getting any profit, it’s P/E ratio is shoewn as N/A by some of the major stock-market websites in India,though it is possible to calculate the negative value of P/E ratio.Remember that, P/E is a very broad topic in itself and can’t be completed in just one article.This is just the basic idea about what a P/E ratio means in stock-market.
PEG ratioPEG ratio takes the idea of P/E ratio to one next level.PEG ratio is calculated by dividing P/E ratio of a company by it’s annual EPS growth rate or we can say , dividing the , price of a share by the ratio EPS and EPS annual growth rate.
Now, why do we use this ratio .Generally, it is considered that if a company have higher growth rate, it have higher P/E ratio. As P/E ratio increase , it seems that you will have to invest more money now, to get the same returns. Thus, companies with higher rate of growth may seem to have overvalued shares but the ground reality is something else. Therefore, we also consider PEG ratio while making decisions.
If a company have % annual growth and it’s P/E ratio is also 15, than PEG ratio becomes 1.A lower PEG ratio is considered to be better (you are getting the stock at low price).
Dividend Payout RatioDividends are the extra perks that company provides to it’s shareholders either in the form of cash or shares. It is a ratio of amount paid via dividends to it’s shareholders and the income of that company .
Amount left(that is not paid as dividends) is kept by company for further expansion or paying off it’s debts. Now, in this factor it depends on investors whether to consider the high Discount payout ratio as a good factor bad.
If a company pay high DPR, you can get some quick extra cash in your pocket. You may also think that a particular company have some great plans for further expansion for what, it is not paying much dividends and you decide to invest in it for a longer term. This decision will vary with company and conditions.
Dividend YieldDividend yield describe the amount paid by a company as dividends relative to it’s stock price. It helps you to identify that which company provides more dividend for the same amount of money.
If you get confused between any two companies, you may definitely rely on this factor, as at the end, it is money what matters here. Dividend yield is the reciprocal of the Dividend payout ratio.
But you should check it through another angle also. If the stock price of a company is also decreasing regularly, it’s Dividend yield will appear to be increasing itself. Here in this case, you will get more amount of money through the dividend as compared to some other country but the stocks of this company will eventually lead you to the loss.
Price to Sales Ratio (P/S)Also called as “revenue multiple” or “sales multiple” . p/s ratio is most valuable when you use it to compare the companies working in same sector .
It can be calculated by dividing the market cap of company by its total sales in a given time span or it can be calculated per share basis with ratio of stock price and SPS
If P-S is low , it depict that the stocks of that company are undervalued .
Book ValueBook value is the net asset (something owned by the company) value of a company . now what do we mean by the net asset value is to exclude the liabilities and intangible assets ( assets which lack there physical substance) like patents and goodwill from it’s total assets .
All the value of a company that can be reflected through it’s financial statements , is called as book value.If you didn’t get it, let me try once again with some more feasible language. Suppose you are the owner of a company and you want to sell it, than the whole money you will get after selling it and paying back all the liabilities of the company, this is what we will call as the Book Value of the company.
When we divide the Book Value with the total outstanding shares of the company, we will get the Book Valur Per Share. This can help us to compare the the two companies with respect to their worth per share.
Return on EquityThis is something which investors can use to measure the profitability of any company. This is a measure of the profit that a company make with the money invested in it’s shares by it’s shareholders. It is the amount of net income returned as the percentage of total money generated through the shareholder’s equity.
As you may be knowing that the total equity provided by the shareholders is equal to company’s total assets minus it’s liabilities, therefore, we can say that ROE is the Return on the net assets of that company.
This gives us the idea about the difference between management of two companies. We can get to know , how much profitably the company can use it’s assets. Now, to get the idea about what can be the satisfactory results, you should compare the companies in same sector as companies in different industries have different factors ,labour required, hardwork , capital etc.
Fundamental vs Technical AnalysisTechnical and Fundamental analysis are both good tools as both have their goods and bads.As a Fundamental analyst , you never look after the market trends but prefer to only observe the economic conditions and the management of the company.
You must be knowing the working of stock market, i mean how the stock prices change. It only depends on the demand and supply of stocks. Stock prices do not have any direct relation with the profit or loss of the company, but it is enough to change the sentiments of traders.
Due to this reason, many stock traders believe in technical analysis to a great extent and they try to observe the demand for a particular stock in the market.Intraday traders rely on technical analysis only.But in the long term, it is the management and legacy of the company which keeps it firm.
So, if you want to invest for a longer term, you should go by the fundamental analysis only.
You can visit here for more comparison on Fundamental Analysis vs Technical Analysis .