Fundamental analysis is key to understanding the underlying nuts and bolts of a company’s engine. Without it, you’re often just blindly buying a stock, hoping for the best.
Think of fundamental analysis as a must for gauging company health.
A fundamental analyst is simply trying to understand the intrinsic value of a company stock – or the true value of a stock by fundamentals. We do that by focusing on five key numbers.
No. 1 — Earnings
Earnings are the bottom line. Earnings give an indication of future potential. Without earnings, a stock is on life support. This is the lifeblood of any company success. If a company isn’t making money, we have to identify where the value is. Will it make money in the future?
No. 2 – Price to Earnings (P/E)
This ratio examines the underlying relationship between the stock price and earnings. For example, a stock trading at $20 and EPS of 4 would have a P/E ratio of 5, or $20 / 4. This gives a fundamental analyst an idea of just how much the stock market is willing to pay for one share of said stock.
No. 3 – Price to Earnings Growth (PEG)
When it comes to the PEG ratio, we’re looking for anything less than 1.0 to tip us off that something may be off. A read greater than 1.0 tells an analyst the stock may be overvalued. A read under 1.0 may be a strong indication of undervaluation.
No. 4 — Price to Sales (P/S)
Price to sales allows an analyst to value a stock relative to total sales over a 12-month period (or the last four quarters). This is often found by dividing a market cap of a stock by total revenue generated. It reflects the value placed on sales figures by the market.
No. 5 — Price to Book (P/B)
The P/B ratio is an estimate of the price of a company relative to the book value of the assets it owns after accounting for debt, depreciation, and other factors. If a company has a P/B ratio of 1.0, it’s selling at exactly book value. A high P/B ratio means a stock is expensive and low P/B ratio means it’s cheap.
These are just a few key numbers to be aware of as a fundamental investor.