Hello everyone! 🤗 Let me introduce myself first. I'm Diego, and I'm here to talk to you about how to analyze stocks.
If you are interested in learning about fundamental analysis in a simple way, stay with me! During some posts (I still have to determine the number 😅 ) we will learn the basics of this method, in order to determine a price for an asset and decide if it is undervalued.
Let's start!!!:
First, you may wonder, what is fundamental analysis? 🤔
Fundamental analysis is a method of evaluating the markets that uses multiple data sources to find an asset's fair value. Unlike technical analysis, which looks purely at price action, it builds up a holistic picture of a security's strengths and weaknesses. The purpose of fundamental analysis is to identify investment opportunities and benefit from them by buying undervalued assets and selling overvalued ones.
Fundamental analysis is usually done from a macro to micro perspective to identify securities that are not correctly priced by the market. Analysts typically study, in order:
- The overall state of the economy
- The strength of the specific industry
- The financial performance of the company issuing the stock
This ensures they arrive at a fair market value for the stock. Fundamental analysis uses publicly available financial data to evaluate the value of an investment. The data is recorded on financial statements such as quarterly and annual reports and filings like the 10-Q (quarterly) or 10-K (annual). The 8-K is also informative because public companies must file it any time a reportable event occurs, like an acquisition or upper-level management change.
Fundamental analysis can help investors to identify undervalued or overvalued assets, but it can also be time-consuming, subjective, and prone to errors. Some of the data sources that fundamental analysts use (and that we will learn how to use them later) are:
- Income statement
- Balance sheet
- Cash flow statement
- Earnings per share (EPS)
- Price-to-earnings ratio (P/E)
- Dividend yield
- Return on equity (ROE)
- Book value
- Debt-to-equity ratio (D/E)
- Profit margin
- Growth rate
- Economic indicators
- Industry trends
- Market sentiment
- Qualitative factors
**Is this the only method? NO! 😠(althougt is the one I like the most) **
Technical analysis is another method of evaluating the markets that focuses on studying the historical price trends and patterns of an asset to predict its future movements. Technical analysis is based on the assumption that the market price of an asset is determined by the forces of supply and demand, and that all relevant information is already reflected in the price. Technical analysis does not care about the intrinsic value of an asset, but only about its price behavior.
Technical analysis is more suitable for short-term trading, as it can help traders to capture market trends and signals, and to determine the optimal entry and exit points. Technical analysis requires more charting and mathematical tools, such as:
- Price charts
- Volume indicators
- Moving averages
- Trend lines
- Support and resistance levels
- Fibonacci retracements
- Oscillators
- Candlestick patterns
- Chart patterns
- Trading systems
Technical analysis can help traders to exploit market inefficiencies and profit from price fluctuations, but it can also be misleading, self-fulfilling, and irrelevant in times of market shocks. Some of the limitations of technical analysis are:
- It can be subjective and inconsistent
- It can be affected by noise and randomness
- It can be lagging and outdated
- It can be based on false assumptions and biases
- It can be overridden by fundamental factors
Some investors use both fundamental and technical analysis to complement each other and gain a more comprehensive understanding of the markets. For example, they may use fundamental analysis to select the assets they want to invest in, and then use technical analysis to determine the optimal entry and exit points. Alternatively, they may use technical analysis to screen for potential opportunities, and then use fundamental analysis to confirm their validity.
In the next post, we will start with the really fun part: the data sources and how to analyze them, to build a foundation in fundamental analysis that can help us to determine a price for the action. Thank you so much for reading my article!
Sources that I used for this article, in case you are interested in delve deeper (I recommend it)
(1) Fundamental Analysis: Principles, Types, and How to Use It - Investopedia. https://www.investopedia.com/terms/f/fundamentalanalysis.asp.
(2) Fundamental Analysis - Meaning, Basics, Types & Examples - WallStreetMojo. https://www.wallstreetmojo.com/fundamental-analysis/.
(3) Introduction to Fundamental Analysis - FOREX.com US. https://www.forex.com/en-us/trading-academy/courses/fundamental-analysis/what-is-fundamental-analysis/.
(4) Introduction to Fundamental Analysis - FOREX.com. https://www.forex.com/en/trading-academy/courses/fundamental-analysis/what-is-fundamental-analysis/.
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