Fundamental Analysis Basics

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July 10, 2021, 12:56 AM UTC

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The basics of fundamental analysis

What Is Fundamental Analysis? (FA)

Fundamental Analysis attempts to measure an asset's intrinsic value by comparing the asset's related financial and economic factors. This is achieved by studying both the macroeconomics and microeconomics of the asset. For this reason, Fundamental Analysis has a great aptitude for the analyzing markets. The macroeconomic portion of fundamental analysis accounts for large-scale factors, such as the current conditions of the market in which the asset exists, as well as the overall state of the economy. The microeconomic portion of fundamental analysis deals with smaller-scale factors, such as the effectiveness of an asset or company's management. The overall goal of fundamental analysis is to come up with a number which an investor can compare to an asset's current price to determine weather or not the asset is over, or undervalued.

The Steps That Go Into Fundamental Analysis

The step-by-step process of evaluating an asset using fundamental analysis varies from one analyst to another, however there are general steps which all fundamental analysts use. These steps start with the big picture of the economy as a whole, and work towards smaller factors. These steps are broken down as follows:

Economic Forecast -- As the economy shrinks and expands, individual businesses and assets shrink and expand along with it. Many economists relate economic expansions and contractions to increases and decreases in interest rates. Because of this correlation, interest is the primary indicator used for fundamental analysis. Although comparing interest rates to the price of an asset is not an exact measurement, coming up with a scenario for the overall state of the economy is the first step needed to determine how to separate industries into groups.

Selecting and Narrowing Groups -- The selection of a group is based on what types of assets are most likely to flourish the when the economy is expanding, as well as what types of assets are likely to continue to perform well during an economic contraction. When the economy is expanding, growth-oriented assets are often advisable. These types of assets can include growing technology and software companies, such as those creating or furthering blockchain technology. Similarly, investing in electronic vehicles is another example of growth oriented investing. On the other hand, investing in the energy market or staple utilities is an example of a possible defense-oriented strategy.

Once the proper markets have been selected, based on the condition of the economy, the next step in fundamental analysis is to narrow these markets down, by comparing the individual assets within said markets. The goal is to determine which asset is exhibiting signs that indicate it will become more prosperous than other similar assets within the selection. In a defensive scenario, one would select individual assets that appear to be affected less by contracting market trends.

Microeconomic Analysis -- This is where fundamental analysis becomes a bit more complicated. The microeconomics within fundamental analysis deal with information such as a companies management, and business plan. The final step in fundamental analysis is to take apart the financial statements of a company, in order to determine a number value. This is achieved by way of valuation metrics

Valuation Drivers -- Valuation drivers refer to factors which increase the value of a business at the time of sale. There are quite a few valuation metrics which traders can apply to their fundamental analysis technique. below is a list of valuation drivers which can be used in a fundamental analysis:

Fundamental analysis is an excellent tool for traders who are seeking out long and palpable positions in traditional and speculative markets. There are many other forms of analysis, such as quantitative analysis, sentiment analysis, and of course, technical analysis. Even so, fundamental analysis continues to hold steady through the years as a predominant resource for many of the most influential market tycoons, who have shaped the world of trading as we know it today.

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