Fundamental Analysis

Beginner
AvramisDespotis
3 Lessons
6 Hours

Funtamental Analysis

Welcome to Fundamental Analysis! In this video, you will learn about fundamental analysis. We will discuss fundamental analysis on the macro level and study various microeconomic factors.

Overview

Fundamental analysis is the cornerstone of investing. It is the study of all the relevant factors that affect an economy, market, or asset class in order to find its intrinsic or fair value. Analysis of factors affecting the economy as a whole (such as interest rates, inflation, growth and unemployment) is known as macroeconomic analysis. Analysis of the factors affecting a specific company (such as liquidity, sales, debt, market share and competition) is known as microeconomic analysis.

Fundamental Analysis

One of the primary assumptions of fundamental analysis is that the price on the stock market does not fully reflect a stock's "real" value. After all, why would you be doing price analysis if the stock market were always correct? This real value is known as the stock’s intrinsic value.

The second assumption of fundamental analysis is that in the long run, the stock price will reflect the fundamentals. Since in the long run the stock price will reflect the fundamentals, if the intrinsic value is above the current market price, then the asset is considered underpriced and should be bought. If the intrinsic value is below the current market price, then the asset is considered overpriced and should be sold. The big unknowns are that you don't know if your estimate of intrinsic value is correct; and how long it will take for the intrinsic value to be reflected in the price.

Macroeconomic Analysis

Macroeconomic analysis is used in the evaluation of currencies, bonds, commodities, and stock indices. At the macro level, analysis examines factors that affect the economy in its entirety. This includes interest rates, inflation, rate of growth, employment, politics, and national sentiment. This analysis will tell us if the economy is expanding, contracting, booming, or in a slump.

Inflation will drop
Unemployment will rapidly increase

Inflation will drop
Unemployment will rapidly increase

Spending will increase
Inflation will rise
Employment will reach its full capacity

Spending will increase
Inflation will rise
Employment will reach its full capacity

Interest rates will decrease
Housing activity and spending will increase

Interest rates will decrease
Housing activity and spending will increase

Economic growth slows
Investments & production decrease

Economic growth slows
Investments & production decrease

It is important to understand that the economy follows a pattern of expansion and recession known as the economic cycle. When the economy moves from the boom stage to the recession stage, economic growth will slow, and we will witness a decrease in investments and production. From recession to slump, inflation will drop, and unemployment will rapidly increase. From slump to recovery, interest rates will decrease, and housing activity and spending will increase. From recovery to boom we have growth, spending will increase, inflation will rise, and employment will reach its full capacity. And the cycle will repeat itself over and over again. Where we are in the cycle decides which asset class we should invest in (e.g. in recession, stock markets go down and bonds go up).

Microeconomic Analysis

Microeconomic analysis is used in the evaluation of individual stocks or corporate bonds. The term refers to the analysis of the economic well-being of a financial entity as opposed to only its price movements. Traders analyze the financial statements of a company in order to decide if its stock is a good investment. Some questions they ask include “Is the company's revenue growing?”, “Is it actually making profits?”, “Is it able to repay its debts?”, and “What is the fair value of its stock?”. In the long run, a stock’s price is driven not only by a company’s ability to grow sales and earnings, but also the economic conditions. Many companies have seen their earnings fall because of the downturn in the economy and consequently, the value of their shares.

Recap!

Fundamental analysis

The study of all the relevant factors that affect an economy, market, or asset class in order to find its intrinsic or fair value

Macroeconomic analysis

Refers to the evaluation of factors that affect the economy in its entirety. It is used in the evaluation of currencies, bonds, commodities, and stock indices.

Microeconomics analysis

Refers to the evaluation of the economic well-being of a financial entity, as opposed to only its price movements. It is used in the evaluation of individual stocks or corporate bonds.

Intrinsic value

The ‘real’ value of an asset. It is derived from the study of all the relevant factors that affect an economy, market, or asset class.

Overpriced asset

An asset is considered overpriced if its intrinsic value is below the current market price. If it is overpriced, it should be sold.

Underpriced asset

An asset is considered underpriced if the intrinsic value is above the current market price. If it is underpriced, it should be bought.

Economic cycle

The pattern of expansion and recession an economy follows.

In the next video, we will talk about macroeconomic analysis. Thank you for watching!