Fundamental analysis being a long term approach involves proper calculation of risk and return. The risk should be less as there is a large amount invested in one place. Also the future plans and complete information about the changes in the political situation as well as the sectoral situation should be taken care of.
Elements for fundamental analysis
- Financial statements
- Financial ratios
- Market capitalization
- Company’s debt and interest payments
- Company’s performance and sectoral performance
- Tracking the NEWS which could affect the company in long run
- Industrial analysis
- Future of Sectors in which company is working
- Long term investment and holding capacity
The peculiarity lies in the multifold description they give regarding a company. The major Financial Statements are Balance sheet, P/L Account, Cash Flow Statement, Statement of Equity, Director’s Report etc.
Through these statements one can know the entire company structure and its performance along with the future objectives. Through the Equity statement the company’s year long equity changes are mentioned. These changes include net income changes and comprehensive income changes. The changes help to know about the equity position of the company. In this equity statement the shares are always presented on their face value.
DECODING THE STATEMENTS
Through the balance sheet the assets and liabilities of the company become clear. The company’s sundry debtors and creditors along with the rent and other expenses are mentioned in detailed manner. The Reserves of the company along with the depreciation amount adds up to match the company current position at the end of quarter or at the end of the year. It helps to get a picture about the company’s asset and liability position and by matching it with the director’s report one can know about the future plans and expansion plans of the company.
The P/L statement is a clear picture of all the expenses the company makes along with the profit amount before and after tax. The profit amount after interest, tax and depreciation is the final product of this statement. It also gives a picture about the tax paid by the company every year or quarter to the government. The statement is a clear picture about the revenue structure of the company. It helps to know about such factors.
The director’s report is a nurse description on the views of the company. The report mentions the long term projects and objectives of the firm. The short term and ongoing plans are also a part of the company. The contingencies about the past year are also mentioned in this report. Hence the good and bad news about the company’s present, past and future is presented through this report.
The Ratios are of various types. There are Liquidity ratios, Solvency ratios, Valuation ratios, profitability ratios etc. Among all these the important ones are Debt to equity ratio, P/E ratio, Return on Equity ratio, Asset Turnover ratio, Operating profit margin ratio.
From The Debt equity ratio the major gain is the company’s debt position. The lesser the debt, safer to invest in the company. The major reason is the lesser interest payment and no burden of loans on the company. This allows the company to function without any fear of constant payments. The P/E Ratio lets the person know about the investment an investor had to make for getting one rupee return on it. Also the stock price of any company is P/E * EPS.
Return on equity is an indication of a company’s capacity to provide returns to the shareholders. Higher the ROE and more the investor’s attraction towards it. Asset turnover ratio indicates the income generation capacity of the assets owned by the company. This gives a view about the company’s ability to generate income from all the money invested in assets. Operating margin profit ratio tells about the company’s capacity of handling its pricing. The better the capacity more would be the margin of profit available to the company.
The market cap is an indication about the investor group’s constant trust in the company. It also show which major investment companies have invested in a company. Through the records of the investor class one can know about the company’s credibility alongwith the percentage of company’s share in the entire business sector.
LONG TERM NEWS (POLICY CHANGES OF GOVT. CHANGE)
Any news or policy changes in the system affects the company indirectly or directly. The reason is the company’s future is based on the nation’s policies. The company plans its future based on the govt. in power and the ongoing trend in the market. For instance If news kicks in that the use of electric cars is compulsory and no petrol cars would be lower than the automobiles would have to plan that in advance. Hence the news for such a change comes before 5 to 10 years so that the entire process could be done in a phased manner.
Also this would benefit the electric companies and those companies who are planning on establishing electrical stations for charging. The battery companies also would get the direct benefit from this scheme. Hence one news and policy change leads to change in multiple industries and future planning of multiple companies
INDUSTRIAL AND MARKET ANALYSIS
In the current scenario of COVID the investors are placing only safer bets. The reason is that sudden market crash can happen at any point of time. The markets react to the current and ongoing situation in the nation. In India the COVID situation has disrupted the businesses of many companies.
At this time the investors will become cautious and look at their positions. They would see that the holdings they have are suffering from major debt or not and due to CIVIC will they suffer losses. If yes they would look at the feasibility of the company to get back to its original position and in what time frame it can do so. After this they will evaluate the competitors and other companies they could invest into to get better returns. And if they found another company matching their objectives they would move their investments to it. This is one example of how the investors analyse the ongoing market situation.
HOLDING CAPACITY AND INVESTMENT TENURE (PROFIT EXPECTED)
The investors always invest in equities by thinking of a stable return from the same. The market rate of return Is 12% so the investors think of minimum 20 to 30 % from their investments. The reason is the high risk involved in equities. They book their positions once their desired targets are achieved and do not look back at how far the company can go. Sometimes what they do is take out their investments from the company and keep the profit amount in it. For instance if an investor invests 1000 Rs in a firm and earns 200 Rs at the end of year, he keeps the 200 Rs invested in the company and gets his 1000 Rs out to invest into another company. This is how the investor cycle functions.
The technical aspect keeps a view on the volatility and the traded volume. The reason is the short term tenure for trading involved. He traders here change the positions very quickly which result in high volume of trades performed. Hence in the short term, price fluctuations get the terriers quick cash or quick loss. Thus the factors to determine the share pattern and price action are :
- Supply and demand
- Price action
- Open interest
- Resistance and support levels
- Usage of stop loss and buying points
- Charts and their time frames
- Statistical tools
- Holding capacity and risk levels for margin
- Algo Trading
- Stock specific News (for any stock or sector)
STOCK SPECIFIC NEWS
It is the key to trading. Whenever there is an event of earnings release or patent approval or any such event the traders rush to take buying and selling positions in the companies based on their assumptions. They take big positions based on the margins. Once the news hits the market they get out the position. The reason is a major rush happens at that time and the big traders already know about that information. Hence they take positions before the news becomes available to the general public. This is how the trader community works.
HOLDING CAPACITY AND MARGIN UTILIZATION
This class focuses on diverting their capacity and taking maximum margin utilization so that no money is left in their hands. They work on the basis of SL and Profit booking strategy. Once their parameters add up and set a SL and Profit range they immediately take actions based on it. They do not look at the gains possible after the stock price but their SL or the higher post after their profit range. Rather they move on to the next script. They keep in mind that their margin utilization does not go above 100% or they become liable to payment for extra fees for the same. Hence multiple parameters make the trading essay for this community.
It is an automated system so it does not require constant tracking and the traders get their trades executed based on their ranges set. It can be set through coding or through softwares such as Zerodha Streak. The major usage of this system is that no opportunity is missed and it does not keep the emotions in place. So as soon as the SL or profit booking range arrives it reacts on the positions automatically. This results in planned work on the calls made in advance.
SUPPLY AND DEMAND (VOLUME AND VOLATILITY)
The supply and demand cycle is the key factor to look at. Major demand and supply shifts cause Heavy volatility for the company. Hence the traders prefer algo trading. The reason is when the news hits the market or parameters are matched due to heavy rush in small and niche companies the volume gets sold quickly. This results in heavy price rise or erosion in the firm based on the trading flow. Hence through algo softwares as soon as the parameters are matched they pick up the stock and the traders never miss an opportunity.
Always remember the supply and demand cycle is the king for trading. Though news is bad or worse but the stock price trades based on the supply and demand cycle. The volume and volatility changes are also a sub part of this cycle only.
RESISTANCE AND SUPPORT LEVELS
They are actively used and forced while referring to the charts. The levels help in knowing the contracts placed. The major contracts or calls are placed at certain levels. This means the SL points or profit booking points. Hence once these labels are breached there is a trigger of buying and selling through algo softwares which results in high volatility (due to demand and supply). So such levels should always be noted before trading.
CHARTS AND VARIOUS PATTERN (INDICATORS AND TOOLS)
The chart pattern and candlestick patterns give a hint about the predicted market direction and market flow. The indicators and statistics give an idea about multiple factors. Like the stochastic gives ideas about the buying and selling pattern of every stock, moving average gives ideas about the bullish or bearish flow of stock and many more. Similarly there are numerous indicators. They are explained in depth in this article.
Such chart movements and indicators add up in making a more accurate call on trading the equities.