Education • 7 min read
Before you start investing funds, it is wise to consider some basic questions about investing. How do I decide which stock to invest in? Recently, we introduced you to the basics of chart analysis of stocks in our blog, today it's time for fundamental analysis. Find out more in this article.
Let's set the stage for act two of the presentation of the most common methods for analysing securities: today we present the most important cornerstones of fundamental analysis. After technical analysis (chart analysis), fundamental analysis is also used for making predictions about the development of future share prices based on the fundamentals of a company.
Put simply, investing funds in stocks means that you buy a small proportion of a company - a stock. You "invest" in this company. You hope that the shares will increase in value and that you will make a profit when you sell them and that you will also participate in the profit through dividends paid out by the company.
With inflation rates soaring and interest rates low, it's hard to get significant returns from traditional savings accounts, so it's vital that you look at how your funds can work for you in other ways.
What is the best way to start investing funds? Basic knowledge of financial matters should always be at the centre of any consideration. If you are planning to invest funds in stocks, it is important to inform yourself in advance about the (sometimes) considerably higher risks that could arise when investing money in securities of any kind.
Some basic questions about stocks can be found in this article. We have already dealt with the topic of chart analysis (also known as technical analysis) here. The most common basic methods for analysing a stock, apart from technical analysis, are quantitative analysis and fundamental analysis.
As the term already suggests, fundamental analysis is used to analyse the "foundations", i.e. the basic economic health of a company.
The problem with this method is that you have to take a lot of information into account - from sales (value of goods and services sold) and profits to the strength of the brand to the management team and much more. So, the drawback of fundamental analysis: it is time-consuming. Nevertheless, it should be part of your research when investing. However, almost all key figures can be found relatively easily on numerous company websites and financial sites on the web.
Please make sure that you always use reputable websites for your research.
Fundamental analysis itself is generally divided again into two categories: quantitative fundamental analysis, which is based on numbers and quantities, and qualitative fundamental analysis, which concerns facts.
So, in quantitative fundamental analysis, you analyse the hard numbers behind the business and thus measurable variables, such as the company's profits and revenues. You can find these figures, for example, in a company's financial statements; through quantitative fundamental analysis you would then compare them to those of similar companies.
You should pay attention to the following components of a report in any case:
In the company balance sheet, investors or interested investors can see the financial structure of the company at a certain point in time. Here you can find the company's assets: capital assets (use of capital) as well as its obligations: financial liabilities (equity, debts and more - including the origin of funds). Assets and liabilities can be contrasted in various ways.
You can see the financial performance of a company over a certain time frame in the profit and loss account. To do this, many investors regularly (every three months) analyse the profit and loss statements of listed companies. This shows whether a company has made profits or losses by comparing expenses (the costs incurred) with income. The development of the liquidity (the solvency) of a company is shown in the cash flow statement.
With qualitative analysis, you learn more about certain aspects of the company or risks that are not clearly measurable: from research and development plans, company patents and competitive strategies, to impressions about the competencies and credibility of the management team. You can also research recent press releases, interviews and more.
The economic development of a company as well as the analysis of qualitative fundamental data give investors clues as to whether a stock is overvalued or undervalued. What does this mean?
From a logical point of view, it makes sense (for beginners) to buy a stock at a favourable price and sell when the price rises - but more often it is the event that investors buy when prices rise in order to still "jump on the bandwagon" and sell when prices fall out of anxiety.
Whether the fair price of a stock is above or below the current stock price is based on the individual personal assessment of each and every analyst or investor.
If the price of a stock is significantly below the actual enterprise value, this stock is called "undervalued" at that point in time. Respectively, if the price is far above the value, such a stock is considered "overvalued". Therefore, the price of a stock virtually forms the average of numerous interpretations of the valuation.
This is where earnings per share (EPS), a figure you can use to compare with other similar companies, and the price/earnings ratio (P/E ratio) come into play.
Earnings per share (EPS) is calculated by dividing the total amount of profit earned in a time frame by the number of stocks the company has listed on the stock exchange. This allows the value of each outstanding stock to be determined. "Outstanding" means stocks held by shareholders at that time.
And again, as a quick reminder, the price-earnings ratio (P/E ratio) is a ratio that determines the relationship between the price of the stock (P) and the earnings per share (E). To do this, the price is divided by the earnings and this figure is then compared with the P/E ratios of other stocks of similar companies.
On Bitpanda you don't need to do the maths yourself. Every description of a company listed on Bitpanda also contains its current P/E ratio as well as independent analyst ratings. Please remember that these do not constitute investment advice.
Last but not least, it should not go unmentioned that during the last few years, many investors have increasingly followed a trend called "noise trading" instead of relying on fundamental analysis or technical analysis. Using this strategy, noise traders follow short-term stock market trends in addition to market participants such as speculators (who are looking for quick profits) and arbitrageurs (who want to profit from price differences on different trading platforms).
Trends like this are based all too often on rumour and emotion, the so-called "market noise", rather than on well-constructed, rational analysis and decision-making by investors. Tragically, overheated emotions can indeed significantly influence the price of securities, as seen in the 2008 financial crisis or the 2021 GameStop rally.
Do you also want to start investing? Simply register on Bitpanda and invest in fractional stocks* and ETFs* of large companies with Bitpanda Stocks - around the clock, commission-free and with tight spreads. There are now more than 1,000 assets available for you on Bitpanda.
*This blog article is not intended to be used as a general guide to investing and should not be seen as investment advice. Bitpanda Stocks enables investing in fractional stocks. Fractional stocks in Europe are always enabled via a contract which replicates the underlying stock or ETF (financial instruments pursuant to section 1 item 7 lit. d WAG 2018). Investing in stocks and ETFs carries risks. For more details see the prospectus at bitpanda.com.
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