Fundamental analysis of a business involves reviewing and analyzing all of the financial statements, the type of management and advantages over other businesses. It stands to reason that a fundamental analysis, when applied to stocks and futures, would focus on things such as interest rates, production schedules, earnings and perhaps economic demand. In order to distinguish fundamental analysis from other types of analysis, such as investment analysis or technical analysis, there are two primary methods; top down and bottom up.
Fundamental analysis helps stock investors answer questions, such as:
1. Is the company actually making a profit?
2. Is the company able to pay their debts?
3. Is management trying to cover up certain aspects of the books?
4. Is the company in a position to have a competitive edge?
Of course, there are hundreds of other questions you can answer with a fundamental analysis, because, after all, you are looking at the fundamental aspects of how the company is working and therefore able to derive answers about the stocks.
What are the Objectives?
Fundamental analysis uses both historical and current data to cover the main objectives:
1. Make financial forecasts.
2. Conduct a company stock valuation and predict price evolution.
3. Evaluate and predict business performance.
4. Calculate a company’s credit risk.
5. Evaluate company management and make internal business decisions.
These objectives help stock analysts and business analysts to learn about a company and how that company is doing financially, without having to spend time with the accounting departments each day.
Some of these objectives are quantitative (measured by numbers), and others are qualitative (measured by quality or character). In order to complete the fundamental analysis, both quantitative and qualitative characteristics must be used. While it is important to figure out revenue and profit, it is also critical to examine brand strategy and ethics of board members and the company as a whole. In other words, investing in the stock market takes more than knowing the numbers; it takes knowing the company and respecting what they are doing.
In the Final Analysis
Fundamental analysis is generally contrasted with technical analysis of a business. A fundamental analysis will take into consideration equations that coincide with data, but will also give weight to other considerations which just come with experience. Financial statements may provide weight to the analysis, but understanding how trends in brand strategy and the actions of board members make a difference in stock prices is important to the fundamental analyst. Many a Wall Street mogul has opted in or out of a stock trade based on more than simple data; you might even say after the facts lie.
I know it may seem like a lot of work just to evaluate a stock you are looking to possibly purchase, but there are many benefits to proper fundamental analysis. If done correctly, a fundamental analysis can save you money and time by providing the best possible outcomes for your stock investing. If some of the most powerful stock traders use this method to make their money, shouldn’t you?
By David Moore