Fundamentals

Celticheart Investor

A beginner's guide to trading and investing

Now you have identified the market sector you are interested in how on earth do you decide which of these companies to invest in? If there was an easy answer to that one then we would all be millionaires. Maybe a good starting point is a quote from one of the world's truly great investors and a genuinely inciteful man:

"It is far better to buy a wonderful company at a fair price than a fair company at a wonderful price."  -  Warren Buffet

At the end of the day what you want is a company to invest in that will grow in value. If you consider that company's share price is only the overall value of the company divided by the number of shares in issue it will give you an idea of what I mean. 

So what is fundamental analysis? It is basically looking at any factors or data, which is likely to impact the share price or the perceived value of a stock. As the name implies,   it means getting down to basics. unlike technical analysis, which focuses more on the trading and price history of a stock, fundamental analysis focuses on creating a portrait of a company, identifying the intrinsic, or fundamental, value of its shares and buying or selling the stock based on that information. So what are those values?

• Overall value of assets
• Level of borrowing (gearing)
• Cash flow (income against outgoings)
• Management track record
• Potential for growth
• EPS (Earnings per share)

Ultimately the value of a share comes down to supply and demand, how much a buyer is prepared to pay for the share measured against how much a seller is willing to sell for. One factor that you cannot put a value on is market sentiment. No matter how good a company is, if the market (by which I mean the institutional investors who hold the real power rather than small investors) do not find favour with it, the share price will not rise significantly and in some cases will drift back down.

http://en.wikipedia.org/wiki/Stock_valuation

As I mentioned previously, there are two ways of measuring a company's net worth, fundamental analysis and technical analysis, I think it is important at this stage to clarify the difference between the two schools of thought:

Fundamental Analysis relies on looking at a companies finances; balance sheet, cash flow income etc. whilst Technical Analysis focuses more on charts and trading patterns on the basis that the fundamental financial data is already factored into the share price.

Generally private and institutional investors use fundamental analysis as their basis for buying shares, while short-term traders rely more on technical analysis. There is a huge difference between investing and trading, for the investor daily fluctuations in the share price matter less than the long term goal but for the trader who relies on these "spikes" to make their profits they are far more significant.

Fundamental analysis provides a lot of valuable information, but a lot of small investors might feel that they do not have the time available to research the fundamentals. Invest the time, if you are serious about investing the information you will get is invaluable. The most basic and probably the single most important fundamental is the EPS (Earnings-per-share) which is calculated by dividing a company's total after-tax profits by the company's number of shares in issue. Comparing the EPS of those companies you are looking to invest in is a great way to determine which to choose.

 Next time:  Technical Analysis

A cautionary note, trading and investing in shares carries a level of risk, these blogs are only meant as a basic guideline to investing and trading, always do your own research and base your decisions on what you can afford to lose. This blog is not intended to provide financial advice as I am not qualified to do so, it is simply designed to provide information about how the markets work that might be of some help to private investors like myself.