Fundamental analysis is a process of evaluating an asset’s intrinsic value and analysing the factors that may influence its price in the future. This kind of analysis is based on external events and influences, as well as financial statements and industry trends.
Fundamental analysis is one of two major market analysis methods, the other being technical analysis. While technical traders will get all of their information from charts, fundamental traders will look at factors other than the asset’s price movements.
There are many tools and techniques that may be utilized for fundamental analysis, but they are divided into two types: top-down analysis and bottom-up analysis. The top-down analysis examines the economy from the top-down, beginning with the entire market and working its way down to a sector, industry, and, finally, a specific company. Bottom-up analysis, on the other hand, begins with a specific stock and expands to evaluate all of the factors that influence its price.
The majority of fundamental analysis is used to evaluate stock prices, but it may also be used to other asset classes such as bonds and forex.
The tools that traders use for fundamental analysis differ depending on the asset being traded. For example, share traders may examine the figures in a company’s earnings report, such as revenue, earnings per share (EPS), projected growth, or profit margins. While forex traders may opt to assess figures released by central banks that provide insight into the state of a country’s economy.
Take, for example, the Coca-Cola Company. No Coca-Cola analysis is complete until it considers brand recognition. A company that sells sugar and water may be started by anybody, but only a handful are known to billions of people. It’s difficult to quantify the value of the Coke brand, but you can be certain that it’s an important component of the company’s ongoing success.
Fundamental analysis would start with assessing the worth of Coca-assets, Cola’s income streams, debts, and liabilities. CSIMarket, a prominent source of financial research, starts by comparing objective metrics like revenue, profits, and growth, particularly in the context of the larger beverage industry. Given that Coca-revenue Cola’s increased by 41 percent in the second quarter of 2021, while the overall beverage industry’s revenue increased by only 25 percent, a fundamental analyst might conclude that the Coca-Cola Company is better positioned to gain market
Quantitative and Qualitative Fundamental Analysis
The problem with defining the term fundamentals is that it may refer to anything related to a company’s economic well-being. They obviously include revenue and profit, but they may also cover everything from a company’s market share to its management quality.
The numerous fundamental factors might be grouped as quantitative or qualitative. The financial meaning of these terms is different to their standard definitions. A dictionary defines the terms as follows:
Quantitative: Related to information that can be shown in numbers and amounts.
Qualitative: Relating to the nature or standard of something, rather than to its quantity.
Quantitative fundamentals are hard numbers in this context. They are the measurable characteristics of a business. As a result, financial statements are the most important source of quantitative data. Revenue, profit, assets, and other metrics may be tracked precisely.
The qualitative fundamentals are less tangible. They might include the quality of a company’s senior executives, brand recognition, patents, and proprietary technology. Neither qualitative nor quantitative analysis is inherently superior. Many analysts consider them in tandem.
Who Uses Fundamental Analysis?
Fundamental analysis is largely employed by long-term or value investors to uncover undervalued stocks and those with favorable future prospects. Fundamental analysis will also be used by equity analysts to generate price targets and client recommendations (e.g., buy, hold, or sell). Financial analysis will also be used by corporate managers and financial accountants to analyze and increase a corporation’s operational efficiency and profitability, as well as to compare the firm to the competition. Warren Buffett, one of the world’s most famous value investors, is a promoter of fundamental analysis.
Pros and Cons of Fundamental Analysis
Fundamental analysis assists traders and investors in gathering the necessary information to make sound decisions about which position to take. Personal biases are minimized since these decisions are based on financial data.
Fundamental analysis aims to understand the value of an asset rather than establishing entry and exit points, allowing traders to take a much longer-term view of the market. Once the trader has determined a numerical value for the asset, they may compare it to the current market price to assess if the asset is over-or under-valued. The goal is to profit from the subsequent market correction.
Fundamental analysis takes time and requires multiple areas of analysis, consuming the process extremely complicated.
Because fundamental analysis involves a much longer-term view of the market, the findings are not suitable for making quick decisions. Technical analysis may be better suited to traders looking to create a methodology for entering and exiting trades in the short term.
It is also necessary to analyze both the best and worst-case scenarios. While fundamental analysis gives a more complete view of the market, unfavorable economic, political, or legislative shocks may catch markets off guard.