Approach to Fundamental Analysis

[Grizzums]

There are many different ways people approach fundamental analysis in researching stocks/companies. Some simply do a quick and dirty look at various metrics vs their peers like p/e, peg, p/s ratios while others just glance at analyst recommendations, but what do I do? What is my approach?

Talking with a friend of mine motivated me to start this thread. He told me, "Its all in the financials.....just look at the financials, they'll tell you what you need to know to analyze a company, it's all in the valuation ratios". Ultimately, I agree that the financials are important but that is not at all where or how I start or conduct my fundamental "due diligence"....but I am not expert.

First, I like to analyze the macroeconomic situation like a General scanning the battlefield to identify attractive industries/sectors and come up with an overall strategy, looking forward. After I have done that and begin to look at companies specifically, I still put the financials aside.....my friend disagrees at this point. I think more important than the financials at this point in time is looking at the business in general....i.e.

- I assess the market opportunities and size
- " " the competitive dynamics
- " " the quality of the management team
- " " the supplier and customer concentration
- " " the barriers to entry

...etc. Ultimately, good investments are defined by their underlying leadership characteristics and growth drivers. The financials (margins, growth rates, balance sheet ratios, and cash flow values) should essentially reflect all the fundamental elements of a company or industry, if you have done your due diligence correctly. Valuation ratios are just a numerical representation of how much you should be willing to pay for a company or asset, but your determination as to whether a business is fundamentally good should come primarily through a qualitative assessment. I am not disregarding the importance of valuation models altogether, I will certainly look at key valuation metrics, including capitalization or enterprise value, revenues, operating earnings/EBITDA, and so forth as they are an equally important aspect to the analysis, but imo, they should not be the first step in the evaluation process.

Don't be bullish (or bearish) biased and ignore the downside (or upside) risks when forming your investment thesis. Be sure to consider a wide range of scenarios and possibilities in order to figure out what would happen to the value of the business if something went awry, and what the probability of such an event might be.

At the end of the day, a ratio is just one number divided by another, and is essentially meaningless in and of itself; remember, your goal in your analysis should be to explain how and why that number is what it is.

Screening:

Screening companies based on a trading or transaction multiples might be useful in identifying a certain threshold of potential investments but there is no shortcut for doing careful diligence insofar as determining which of those investments is truly better than the other.

Here is my bottom line... this stock picking game is an art, not a science, if there was a formula that we all could follow then everyone would be generating alpha. That is not the case, so do yourself a favor...take the time that is needed to thoroughly due some diligence, in the end, you'll be glad that you did.

Feel free to add your own approaches to fundamental analysis.

Good Luck.

[Skydaemon]

The major problem with ratios is accounting rules are so loose that most companies show whatever picture they want. If you don't look up the details yourself there's no way to know if it reflects reality.

Having said that, analysts use these ratios, and they can affect stock price in the short term whether they are on the mark or not.

[Ciao]

Grizzum…. Interesting post

Although I have been saying that I am not a pro and trade to pass the time…. I do have some strategies (some of you might turn grey if I tell you )
As I trade in different markets (Milan, London, Paris and now USA) I adapt a global strategy (what I may do in USA is part of it….. )

I divide it into 2
1)Investing; If I am investing in a stock, I take the time to get to know that company. I care about the P/E ratio, the long-term prospects, the products they have in the works, the management and the company's competitors the products they have in the works, the management and the company's competitors… etc…etc… this I regard as an investment and leave it (the money) for few years….
2) Day Trading; there is really only one thing that I am interested that is what is the stock doing… and try to make money on the wave up or down… in/out/scalp this one is the one I like the best… no research or very little, trading from few minutes or hour … closing all positions, regardless… and sleep well…

IMO the fundamentals are not going to matter over the next half-hour, therefore not to be confuse trading and investing! volume is what I first look at (in/out trading) and take risk…. (if I want money I gamble but learn not to lose…. “run the profit and cut the loses”… does it mean something to you?

Many might not agree with me but the only thing that really moves a stock is people buying and selling it. without volume nothing move.... but all this is another story…. So I better stop here before I start mumble and make it understandable…..

At the same time IMHO I am a strong believer that every day is different from the other… (news, sentiments, philology etc..) but in day trading if one bring the profit more often IMO at the end of the year his/her profit would be higher….. why waiting to gain (and risk) few cents tomorrow, when you got $ today?

btw I agree what Skydaemon post... that happen and is important to keep it in mind as well..

for the less experiences traders I suggest not only to "study" of Gary's CD but read some good book on scalping....

good day or night