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Fundamental Analysis

Fundamental analysis is a method of evaluating securities by attempting to measure their intrinsic value. Fundamental analysts study everything from the overall economy and industry conditions to the financial health and management of a specific company. The ultimate goal is to determine if a company's stock is currently priced accurately, overvalued, or undervalued.

The Goal: Finding Intrinsic Value

When you perform fundamental analysis, you are trying to answer one core question: "What is this company truly worth?" You do this by looking at a company's financial statements and other qualitative factors to arrive at an intrinsic value. If the stock's market price is below your calculated intrinsic value, it might be a good investment. If the market price is above it, the stock may be overvalued.

Key Financial Statements to Study

The three primary documents you will use are:

  • The Income Statement: This shows a company's revenues, expenses, and profit (net income) over a period of time. It tells you if the company is profitable.
  • The Balance Sheet: This is a snapshot of a company's financial position at a single point in time. It lists its assets, liabilities, and owners' equity. It tells you what a company owns and what it owes.
  • The Cash Flow Statement: This shows how cash and cash equivalents move in and out of a company. It's often considered the most reliable statement as it's harder to manipulate than the others.

Essential Financial Metrics

Here are some of the most common ratios and metrics used in fundamental analysis:

P/E Ratio (Price-to-Earnings)

A popular metric that compares a company's current stock price to its earnings per share (EPS). A lower P/E ratio may indicate a stock is undervalued compared to its peers.

EPS (Earnings Per Share)

This is the portion of a company's profit allocated to each share of common stock. A growing EPS is a good sign of a healthy, profitable company.

Dividend Yield

The annual dividend per share divided by the stock's current price. This is particularly important for income investors who rely on dividends for returns.

Debt-to-Equity Ratio

This ratio measures a company's financial leverage. A high ratio indicates that a company is using more debt to finance its assets, which can be a riskier position.

Next: Learn to Read the Charts

Fundamental analysis tells you what to buy. Technical analysis tells you when to buy. Learn the basics of chart patterns and indicators in our next guide.

Explore Technical Analysis →