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A potential (or current) investor uses fundamental analysis to examine a company's financial results, its operations and the market(s) in which the company is competing to understand the stability and growth potential of that company. Company factors to consider might include Dividend s paid, the way a company manages its cash, the amount of Debt a company has, and the growth of a company's Revenue s, Expense s and Earning s. A fundamental analyst may enter Long or Short positions based on the result of fundamental analysis. The theory underpinning fundamental analysis is that, to truly make money in the long run, an investor must focus on the company itself rather than merely on the movement of its stock price. As Benjamin Graham and David Dodd say in their classic work '' Security Analysis '', "in the short run, the market is a voting machine, not a weighing machine." An investor uses fundamental analysis to find the companies that are built to last. Warren Buffett , the second richest person in the world, is believed to base his investment decisions solely on fundamental analysis. Fundamental analysis adherents believe a company's " Intrinsic Value " will eventually be reflected in the stock price through market forces, but that, while the market is ultimately Efficient , some stocks (for any number of reasons) are either over- or under-valued in the short run. To this end, Earnings Multiples , such as the P/E Ratio , may be used to determine value, where cash flows are relatively stable and predictable. An important caveat here is that the P/E ratio is ultimately not an objective measure because it must be interpreted; a high P/E ratio might show an overvalued stock, or it might reflect a company with high potential for growth. One method for combatting this interpretation problem is to use the valuation equations in the works of Aswath Damodaran or on web sites like ValueTool ( {Link without Title} ) that interpret equations such as P/E, P/BV, or FCFE as dollar values, so that they may be easily compared to the stock price. Other valuation techniques include Discounted Cash Flow , Book Value , and Dividend yield analysis. THREE STEP PROCESS In large organizations fundamental analysis is usually performed in three steps:
Often the procedure stresses the effects of the overall economic situation on industry and firm analysis and is known as ''top down'' analysis. If instead the procedure stresses firm analysis and uses it to build its industry analysis, which it uses to build its macroeconomic analysis, it is known as ''bottom up'' analysis. CRITICISMS
REFERENCES SEE ALSO
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