Fundamental analysis is a basic tool for stock picking. It is a method used to determine the intrinsic value of a stock by analyzing the financial data that is 'fundamental' to the company. It takes into consideration only those variables that are directly related to the company itself, such as its earnings, its dividends, and its sales. How does a stock investor determine the intrinsic value of a stock? Many different methods can be used to find the intrinsic value; basically, a company is worth the sum of its discounted cash flows.
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Stock fundamental analysis tools
There are many popular tools of fundamental analysis. They focus on earnings, growth, and value in the stock market. Following are a list of the most popular fundamental analysis tools.
- Earnings per share.
When it comes to valuing a company's stock, earnings per share are the "bottom line". Earnings are how much profit (or loss) has made after subtracting expenses.
- Prices to earnings ratio (P/E).
The P/E is one of the most popular metric of stock analysis. P/E is calculated by taking the stock price and dividing it by the company's Earnings per share. It focus on the relationship between the stock price and the company's earnings. It gives you an idea of what the market is willing to pay for the company's earnings.
- Growth rate.
The rate at which owner's earnings are expected to grow for the next five years.
- Dividend Payout Ratio.
The dividend payout ratio measures what a company's pays out to investors in the form of dividends. The payout ratio provides an idea of how well earnings support the dividend payments. More mature companies tend to have a higher payout ratio.
- Book value.
The Book Value is the company's assets minus its liabilities. A company that is a viable growing business will always be worth more than its book value for its ability to generate earnings and growth.
- Return on Equity.
Return on equity is one useful tool that measures how efficiently a company uses its assets to produce earnings. Return on equity is calculated by dividing net income by book value. A healthy company may produce an ROE between 13% to 15%.
Nevertheless, fundamental analysis is merely a tool to help you find and evaluate which stocks offer good value. Like anything related to the stock market, this method is more art than science.
