Fundamental analysis is the type of financial analysis that relies on company’s fundamentals. Those fundamentals depend on the target of the analysis. For example, fundamental analysis of stock depends on its ability to generate free cash flow and pay dividends in the future over long period. Of course, many financial ratios and economical indicators have a lot of influence for company’s cash flow.
The opposite type of analysis to fundamental is technical analysis which doesn’t look at company’s financial data but relies only on stock trading data: security price charts, turnover, trading volume and many technical indicators. It is widely believed that technical analysis is working; however, there are more skeptics than believers in technical analysis. Some serious investment banks are ignoring technical analysis because such ‘mysterious’ analysis methods may hurt the reputation.
Basically, fundamental analysis of stocks is not much different from stock valuation as the goal of fundamental analysis is to find some investments that would have higher than average growth potential, and it is believed that undervalued stocks have this upside potential. There are two main methods that are used in practice to evaluate the stock:
However, fundamental analysis is not an easy method to use because a lot of financial experience is needed to do it properly. Not everyone may calculate financial ratios correctly but it is even harder to interpret them rightly. There are many different types of companies and businesses, and each of them may require different ratios and different knowledge. It is not enough to understand few fundamental ratios and apply them for the company. Every sector has its specifics that may affect company’s financial results in the future, and there is no such company of which results would not be affected by economical cycles and environment, and the analyst that performs fundamental analysis should know about the economical indicators as well.
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