Stock Market – How to Use Fundamental Analysis to Make Trading Decisions

Stock Analyzing

Investors come in many shapes and forms, so to speak, but there are two basic types. First and most common is the more conservative type, who will choose a stock by viewing and researching the basic value of a company. This belief is based on the assumption that so long as a company is run well and continues turning a profit, the stock price will rise. These investors try to buy growth stocks, those that appear most likely to continue growing for a longer term.

The second but less common type of investor attempts to estimate how the market may behave based purely on the psychology of the market’s people and other similar market factors. The second type of investor is more commonly called a “Quant.” This investor assumes that the price of a stock will soar as buyers keep bidding back and forth (often regardless of the stock’s value), much like an auction. They often take much higher risks with higher potential returns-but with much higher potential for higher losses if they fail.

Fundamentalists

To find the stock’s inherent value, investors must consider many factors. When a stock’s price is consistent with its value, it will have reached the target goal of an “efficient” market. The efficient market theory states that stocks are always correctly priced since everything publicly known about the stock is reflected in its market price. This theory also implies that analyzing stocks is pointless since all information known is currently reflected in the current price. To put it simply:

  • The stock market sets the prices.
  • Analysts weigh known information about a company and thereby determine value.
  • The price does not have to equal the value. The efficient market theory is as the name implies, a theory. If it were law, prices would instantly adapt to information as it became available. Since it is a theory instead of law, this is not the case. Stock prices move above and below company values for both rational and irrational reasons.

Fundamental Analysis endeavors to ascertain the future value of a stock by means of analyzing current and/or past financial strength of a particular company. Analysts attempt to determine if the stock price is above or below value and what that means to the future of that stock. There are a multitude of factors used for this purpose. Basic terminology that helps the investor understand the analysts determination include:

  • “Value Stocks” are those that are below market value, and include the bargain stocks listed at 50 cents per dollar of value.
  • “Growth Stocks” are those with earnings growth as the primary consideration.
  • “Income Stocks” are investments providing a steady income source. This is primarily through dividends, but bonds are also common investment tools used to generate income.
  • “Momentum Stocks” are growth companies currently coming into the market picture. Their share prices are increasing rapidly.

To make sound fundamental decisions, all of the following factors must be considered. The previous terminology will be the underlying determining factor in how each will be used, based upon investor bias.

1. As usual, the earnings of a particular company are the main deciding factor. Company earnings are the profits after taxes and expenses. The stock and bond markets are mainly driven by two powerful dynamisms: earnings and interest rates. Harsh competition often accompanies the flow of money into these markets, moving into bonds when interest rates go up and into stocks when earnings go up. More than any other factor, a company’s earnings create value, although other admonitions must be considered with this idea.

2. EPS (Earnings Per Share) is defined as the amount of reported income, per share, that the company has on hand at any given time to pay dividends to common stockholders or to reinvest in itself. This indicator of a company’s condition is a very powerful way to forecast the future of a stock’s price. Earnings Per Share is arguably one of the most widely used fundamental ratios.

3. Fair price of a stock is also determined by the P/E (price/earnings) ratio. For example, if a particular company’s stock is trading at $60 and its EPS is $6 per share, it has a P/E of 10, meaning that investors can expect a 10% cash flow return.

Equation: $6/$60 = 1/10 = 1/(PE) = 0.10 = 10%

Along these same lines, if it’s making $3 a share, it has a multiple of 20. In this case, an investor may receive a 5% return, as long as current conditions remain the same in the future.

Example: $3/$60 = 1/20 = 1/(P/E) = 0.05 = 5%

Certain industries have different P/E ratios. For instance, banks have low P/E’s, normally in the range of 5 to 12. High tech companies have higher P/E ratios on the other hand, generally around 15 to 30. On the other hand, in the not too distance past, triple-digit P/E ratios for internet-stocks were seen. These were stocks with no earnings but high P/E ratios, defying market efficiency theories.

A low P/E is not a true indication of exact value. Price volatility, range, direction, and noteworthy news regarding the stock must be considered first. The investor must also consider why any given P/E is low. P/E is best used to compare industry-similar companies.

The Beardstown Ladies suggests that any P/E lower than 5 and/or above 35 be examined closely for errors, since the market average is between 5 and 20 historically.

Peter Lynch suggests a comparison of the P/E ratio with the company growth rate. Lynch considers the stock fairly priced only if they are about equal. If it is less than the growth rate, it could be a stock bargain. To put it into perspective, the basic belief is that a P/E ratio half the growth rate is very positive, and one that is twice the growth rate is very negative.

Other studies suggest that a stock’s P/E ration has little effect on the decision to buy or sell stock (William J. O’Neal, founder of the Investors Business Daily, in his studies of successful stock moves). He says the stock’s current earnings record and annual earnings increases, however, are vital.

It is necessary to mention that the value as represented by the P/E and/or Earnings per Share are useless to investors prior to stock purchase. Money is made after stock is bought, not before. Therefore, it is the future that will pay, both in dividends and growth. This means that investors need to pay as much attention to future earnings estimates as to the historical record.

4. Basic PSR (Price/Sales Ratio) is similar to P/E ratio, except that the stock price is divided by sales per share as opposed to earnings per share.

  • For many analysts, the PSR is a better value indicator than the P/E. This is because earnings often fluctuate wildly, while sales tend to follow more dependable trends.
  • PSR may be also be a more accurate measure of value because sales are more difficult to manipulate than earnings. The credibility of financial institutions have suffered through the Enron/Global Crossing/WorldCom, et al, debacle, and investors have learned how manipulation does go on within large financial institutions.
  • The PSR by itself is not very effective. It is effectively used only in conjunction with other measures. James O’Shaughnessy, in his book What Works on Wall Street, found that, when the PSR is used with a measure of relative strength, it becomes “the King of value factors.”

5. Debt Ratio shows the percentage of debt a company has as compared to shareholder equity. In other words, how much a company’s operation is being financed by debt.

  • Remember, under 30% is positive, over 50% is negative.
  • A successful operation with ascending profitability and a well marketed product can be destroyed by the company’s debt load, because the earnings are sacrificed to offset the debt.

6. ROE (Equity Returns) is found by dividing net income (after taxes) by the owner’s equity.

  • ROE is often considered to be the most important financial ration (for stockholders) and the best measure of a company’s management abilities. ROE gives stockholders the confidence they need to know that their money is well-managed.
  • ROE should always increase on a yearly basis.

7. Price/Book Value Ratio (a.k.a. Market/Book Ratio) compares the market price to the stock’s book value per share. This ratio relates what the investors believe a company (stock) is worth to what that company’s accountants say it is worth per recognized accounting principles. For example, a low ratio would suggest that the investors believe that the company’s assets have been overvalued based on its financial statements.

While investors would like the stocks to be trading at the same point as book value, in reality, most stocks trade either at a value above book value or at a discount.

Stocks trading at 1.5 to 2 times book value are about the limit when searching for value stocks. Growth stocks justify higher ratios, because they grant the anticipation of higher earnings. The ideal would be stocks below book value, at wholesale prices, but this rarely happens. Companies with low book value are often targets of a takeover, and are normally avoided by investors (at least until the takeover is complete and the process begins anew).

Book value was more important in a time when most industrial companies had actual hard assets, such as factories, to back up their stock. Sadly, the value of this measure has waned as companies with low capital have become commercial giants (i.e. Microsoft). Videlicet, look for low book value to keep the data in perspective.

8. Beta compares the volatility of the stock to that of the market. A beta of 1 proposes that a stock price moves up and down at the same rate as the market overall. A beta of 2 means that when the market drops the stock is likely to move double that amount. A beta of 0 means it does not move at all. A negative Beta means it moves in the opposite direction of the market, spelling a loss for the investor.

9. Capitalization is the total value of all of a company’s outstanding shares, and is calculated by multiplying the market price per share by the total number of outstanding shares.

10. Institutional Ownership refers to the percent of a company’s outstanding shares that are owned by institutions, mutual funds, insurance companies, etc., which move in and out of positions in very large blocks. Some institutional ownership can actually provide a measure of stability and make contributions to the roll with their buying and selling, respectively. Investors consider this an important factor because they can make use of the extensive research done by these institutions before making their own portfolio decisions. The importance of institutions in market action cannot be overstated, and accounts for over 70% of the dollar volume traded daily.

Market efficiency is a marketplace goal at all times. Anyone who puts money into a stock would like to see a return on their investment. Nevertheless, as before-mentioned, human emotions will always drive the market, causing over- and undervalue of common stocks. Investors must take advantage of patterns using modern computing tools to find the stocks most undervalued as well as develop the correct response to these market patterns, such as rolling within a channel (recognizing trends) with intelligence.

Overcoming the Obstacles of Affiliate Marketing

The concept of affiliate marketing is well founded in the development of the Internet as a global marketplace. While traditional businesses use similar sales methods, an Internet-based affiliate marketing method has its unique characteristics and thus, has its unique drawbacks and obstacles. In simply stated terms, the issues that arose from traditional marketing had a business providing commissions or other benefits for the public or its dealers or representatives to promote, sell and advertise its services.

In the early years, this was accomplished mainly with banners and/or an overabundance of emails being sent repeatedly, now known as spam. Today, email communications have developed into a more mature and controlled area in online marketing which many serious businesses are embracing and utilizing in their daily marketing routines.

Here are five obstacles to overcome:

As a large crowd of affiliates might act as a powerful lead generator network, the network does incur issues resulting from that same large crowd mentality. If left uncontrolled and unsupervised, the network has been found to cause problems for a business’s reputation due to the affiliate partner’s illegitimate or even hostile spamming actions.

*This can be the first main obstacle in the setting up of an effective marketing plan. You must ensure a proper control and code of conduct towards and for the affiliate members.

For a business to effectively use affiliate marketing, another obstacle can be found at the point of the delivery in a client’s browsers. More and more of client devices are blocking 3rd party cookies by default and even blocking other advertisements. As end-users become more and more aware of these mechanisms to block any unwanted advertisement content, the potential value of affiliate marketing decreases for the business trying this method of distributing its product or service.

*The second main obstacle is then the decreasing availability of advertising access being delivered to a client’s device.

With the globally diverse nature of things, any industry established standards or training with a formal certification authority should not be expected in the near future although many local legislatures and new global agreements are addressing the illegitimate actions including and not limited to everything from spamming to the serious offenses of cyber-crime. Although this is a fast growing issue online, future industry standards and training regulations of online marketing are slowly being enacted that speak to all of the current issues surrounding affiliate marketing and online advertising methods.

*The third main obstacle is having effective regulation for the various affiliate marketing methods.

The regulations are not easy to comprehend nor comply to, nor even to be aware of. With all that a small business has to absorb and put in place to be able to legally open their doors to do business daily and with a small staff normally at startup, the small business’s capacity and ability to implement these regulations are minimal at best.

*The fourth main and top obstacle is the regulative obscurity found in the mesh-like network of these new regulations.

Content creators, affiliate marketing providers and businesses alike, are in the constant struggle with search engines trying to push up their content in the index and increase their page ranking and placement. If they are successful in accomplishing these tasks and have the increases they work for to be able to attract more traffic to their affiliate marketing page the results accomplished are generating more revenue from the company providing the affiliate marketing program.

*The last obstacle is the highly protected indexing algorithms used by the global indexing search engines.

As you can see, much work is and will be required to monitor and control affiliate marketing for it to be a business worth online respect.

Email Marketing Tips – 3 Hyper Active Email Marketing Tips

If you are doing any type of business on the internet
then you need to be using email marketing in order to
rake in the big time profits. If you use the following email marketing tips, you will
notice a marked improvement in your results.

Tip #1 – Build your own, highly targeted email list.

This is a great email marketing tip and you should be
spending at least ninety-five per cent of your time
building your email list.

The best way to build a responsive email list is to
offer a free ebook. Stuff the ebook full of useful
and helpful information. Then give it away for free
in return for the name and email address of your
visitor. A responsive list of people who are interested in
hearing from you will boost your profits over the top.

Tip #2 – Connect on a personal level with your email
list. This is crucial to your success and must be taken
seriously.

Treat the people on your email list as you would your
best friend. Give them useful content. Help to solve
their problems. Talk to them and not at them. Write your email message as you do when emailing a
friend. Just make your message simple and to the
point,

Tip #3 – Personalize all of your email marketing
messages to give your messages a personal feel. Make
your email seem as thought it was written for that
one reader and not the hundreds or thousands of others
on your list.

Try using these email marketing tips in your daily
marketing routine and watch your results sky rocket.