What is Fundamental Analysis?

Fundamental analysis is basically about measuring a security’s intrinsic value. This is done by looking at various economic and financial factors and also looks into other factors that can affect its price in the future.
Analysts studying this observe what factors can cause effects to the security’s value. This can vary from macroeconomic factors such as GDP or rate of employment to microeconomic factors like the price elasticity or auto manufacturers.

What you finally look into is the number which an investor compares with a security’s current price to see if security is undervalued or overvalued.
This method is considered to be the opposite of technical analysis as technical traders look into charts based on price and volume. But fundamental traders look at other factors apart from price.
Understanding Fundamental Analysis
What most of these stock analysts try to determine is whether a security is correctly valued in the market. For this, analysts look into the overall economy and industry strengths as well. After this, they then look at company performance looking at revenues, earnings and profit margins. With this information, they can arrive at a fair market stock value which is its’ main aim.
Keep note that when the intrinsic value is greater than the market price, a buy recommendation is given. In contrast, if the value is lower, a sell recommendation is issued.
Qualitative and Quantitative Fundamental Analysis
The term fundamental analysis is quite vast and can relate to anything. It could be qualitative like the quality of the management or brand name recognition. On the other hand, it can be quantitative when it looks at profits, assets and other figures. However, you can’t separate them or ignore them but should analyze them together for more credible and effective results.
A few important qualitative fundamentals are:
Management- executing the business plan properly through proper management is essential.
Competitive advantage- this is usually through long-term success such as companies like Coca Cola for example. Shareholders are rewarded well as companies gain more profit.
Business model-looking at what the company does and if it is actually making money
Corporate Governance- to ensure transparency and also make sure that the company acts in a fair and ethical manner, corporate governance is necessary. The policies are laid out in charters and by-laws and other regulations that must be adhered to.
Quantitive fundamentals that are often considered are:
Balance sheet- it has the entire financial structure of the company by keeping a record of assets and liabilities.
Statements of cash flow- these record the in-flow and out-flow of cash within a given time frame. These statements could be either investing, financing or operating.
Income statement- this helps to look at the performance of the company over a given time frame. The revenues, expenses, and profits are all recorded in this
Intrinsic value
There are a few assumptions that fundamental analysts make. Firstly stock markets don’t reflect the true or intrinsic value of the stock. This is obviously because you want to buy stocks below the intrinsic value known as buying with a margin of safety. Eventually, in the long run, the market will trade at its’ intrinsic value. This gives rise to the second assumption that it will rise back to its’ value over time but the long run can range from months to years.
Criticism of Fundamental Analysis
Many criticize this method favoring the technical analysis or the efficient market hypothesis. Technical analysis looks at trade based on the price and volume of stocks. Some believe that this gives more insight than fundamental analysis.
On the other hand, those who follow an efficient market hypothesis do not accept the fundamental or technical analysis. They believe asset prices reveal all information and that ‘you can’t beat the market’. you just cannot make any profit or return above the average of the market according to them.
Final thoughts
Fundamental analysis is important when thinking of long-term investments. Any business or investor can venture to buy stocks estimating the intrinsic value. They can buy with discounts as they know the market will catch up. You can even predict long-term trends based on factors like the economy or consumers. Thus, you can pick the right industries and companies by conducting fundamental analysis.