Fundamental Analysis
Fundamental analysis uses earnings and dividend prospects of the firm, expectations of future interest rates, and risk evaluation of the firm to determine proper stock prices. Ultimately, it represents an attempt to determine the present discounted value of all the payments a stockholder will receive from each share of stock. If that value exceeds the stock price, the fundamental analyst would recommend purchasing the stock. Fundamental analysts usually start with a study of past earnings and an examination of company financial statements. They supplement this analysis with further detailed economic analysis, ordinarily including an evaluation of the quality of the firm’s management, the firm’s standing within its industry, and the prospects for the industry as a whole.
Once again, the efficient market hypothesis predicts that most fundamental analysis also is doomed to failure. If the analyst relies on publicly available earnings and industry information, his or her evaluation of the firm’s prospects is not likely to be significantly more accurate than those of rival analysts. There are many well-informed, well-financed firms conducting such market research, and in the face of such competition it will be difficult to uncover data not also available to other analysts. Only analysts with a unique insight will be rewarded. Fundamental analysis is much more difficult than merely identifying well-run firms withgood prospects.
Fundamental analysis uses earnings and dividend prospects of the firm, expectations of future interest rates, and risk evaluation of the firm to determine proper stock prices. Ultimately, it represents an attempt to determine the present discounted value of all the payments a stockholder will receive from each share of stock. If that value exceeds the stock price, the fundamental analyst would recommend purchasing the stock. Fundamental analysts usually start with a study of past earnings and an examination of company financial statements. They supplement this analysis with further detailed economic analysis, ordinarily including an evaluation of the quality of the firm’s management, the firm’s standing within its industry, and the prospects for the industry as a whole.
Once again, the efficient market hypothesis predicts that most fundamental analysis also is doomed to failure. If the analyst relies on publicly available earnings and industry information, his or her evaluation of the firm’s prospects is not likely to be significantly more accurate than those of rival analysts. There are many well-informed, well-financed firms conducting such market research, and in the face of such competition it will be difficult to uncover data not also available to other analysts. Only analysts with a unique insight will be rewarded. Fundamental analysis is much more difficult than merely identifying well-run firms withgood prospects.
Discovery of good firms does an investor no good in and of itself if the rest of the market also knows those firms are good. If the knowledge is already public, the investor will be forced to pay a high price for those firms and will not realize a superior rate of return. The trick is not to identify firms that are good but to find firms that are better than everyone else’s estimate. Similarly, poorly run firms can be great bargains if they are not quite as bad as their stock prices suggest. This is why fundamental analysis is difficult. It is not enough to do a good analysis of a firm; you can make money only if your analysis is better than that of your competitors because the market price will already reflect all commonly available information.
No comments:
Post a Comment