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How to do Fundamental Analysis of Stock Market?

Created on 15 Feb 2022

Wraps up in 8 Min

Read by 4.2k people

Updated on 12 Sep 2022

There are all kinds of people in the stock market, among them are Investors & Traders. They are like the two sides of a coin. The former has a trait of long term patience and the latter is patient too but for the short term. And then there are these Hybrids who trade and invests. What kind are you?

Today, we are writing especially for the Investor kind. The ones who like it the ‘Long Term’ way. So, Let’s get started!

Fundamental Analysis of Stock Market

Fundamental analysis is carried out to find the intrinsic value of a stock and that is the building block of value investing. I know, I know! Here are a few terminologies which you might not understand. 

For a better understanding of fundamental analysis & value investing, keep reading ahead! We are going to share with you a glimpse of one of the most popular Value Investing courses that Quest by Finology has to offer. 

Before we get started, Let’s understand Value Investing & Fundamental analysis in the first place. 

Fundamental analysis is the art & science of evaluating the ‘true’ worth of stock. And by true worth, we mean the ‘intrinsic value’ of the stock. 

Value Investing is nothing but an investment strategy of picking undervalued stocks and by undervalued stocks we mean,  a stock that is trading at a price lower than its actual value. 

Value Investing is popular among some of the most successful investors such as Warren Buffet, Charlie Munger, Bill Ackman and even Bill Gates. 

According to Warren Buffett, “Price is what you pay; Value is what you get”

So, the crux of value investing is to find the actual or intrinsic value of stocks. This can be done by going through financial statements and carrying out valuation techniques and with Quest, we will learn something beyond what typical lessons will teach you.

So, let’s take a peek into the much-loved Value Investing course offered by Quest. 

Today, we will take a look into it in terms of three sections, namely, 

  • Beyond Financial Statements

  • Quantitative Analysis

  • Advance concepts relating to the Stock Market

Beyond Financial Statements

Financial statements are the top 3 statements in the book of accounts namely, Income Statement, Balance Sheet & Cash Flow statements. 

But with Quest, we will go beyond Financial Statements. How do you ask? Well, it's often believed that numbers are enough to make sound investing decisions but a company's qualitative is as important as its quantitative. The qualitatives deal with intangible & inexact concerns rather than mathematical aspects. 

So, the next question is how do you go ‘beyond’ financial statements, for that first we have to understand what Value Investing is. As we discussed earlier, value investing is an investment strategy that aims to earn profit by identifying undervalued stocks through its intrinsic OR fair value. 

According to one of the assumptions of value investing, Every stock has an intrinsic value as the price you pay for the stock is what makes it a good or a bad buy. 

Have you ever bought a phone? If yes, then you must have looked for the best discounts before buying. Likewise, stocks can also be bought at a discount or at a premium. 

Finding the intrinsic value of a stock is the art of finding its true worth than buying that stock at its true worth or below it. Thus, value investing will help you in determining the true worth of the stock along with helping you build that required discipline to buy stocks below their fair price. 

Next, the biggest question is, how to find that perfect stock from a lonnnggggg list of listed companies? Well, there are many approaches to it. Today we will talk about two of them. 

  • Top-down Approach

In this method, a particular industry is selected and once that is done, the next step is to find the perfect stock to invest in that industry. 

Thus, it all starts by selecting the right sector. And how to do that? It can be done by following these steps, that is, firstly find the Future of the sector eg. EV cars have huge growth potential in the future. 

Secondly, you can also go for Sectors that are out of favour for now but might have a growth prospect in the future. Thirdly, keep a keen eye on Changes in government regulations because some attractive regulatory changes can make a stock desirable. 

Lastly, take a look at the Technology improvements in the sector, a sudden technology improvement can benefit the entire sector.   

  • Bottom-up Approach

This is the opposite of the previous approach. Here you do not search for a particular stock in a particular industry. You will be buying stocks from any industry through the companies you know and understand like Colgate, Bata, Gillette etc. or the companies around your profession eg. you might look for pharmaceutical companies if you are a doctor.

Also, you can find companies based on the insights of your Social Circle like your friends and relatives. If you have a friend that works for a bank don't you think he will be in a great position to tell you about the condition of the bank? 

Newspapers, magazines and advertisements function as a tool to bring new companies to your notice.

Well, this was all about the qualitative aspects of our research. We hope you know, Qualitative & Quantitative both are really important and go hand in hand. Moving forward, we will take a look at the quantitative aspects of our Value Research Quest 😋. 

Quantitative Analysis

For everyone who loves playing with numbers. Quantitative analysis is all about exploring the financial aspect of companies. Right from accounting equations to valuation of the company. They are all parts of quantitative analysis. 

Firstly, you have to understand what financial statements are, then move towards how various analyses such as ratio, valuation & behavioural analysis work. 

Quantitative analysis in terms of investing revolves around balance sheets, cash flow & profit and loss statements. 

Ratios such as Profitability, Activity, Liquidity, Solvency etc play a major role in analyzing stocks. Likewise, in numeric terms after analyzing the financial statements and ratios we move towards valuation analysis. 

So, let's discuss some valuation ratios today.

Price to Book value Ratio: The ratio expresses the relationship between market price and a book value of a share. The formula goes, Market Price per share/ Book value per share. 

Price to Earnings Ratio: It is the comparison between price and earning of the share. The price is the market price of the share and EPS is earning per share of the company. And its formula is the Market price per share/ Earning per share.

Moving forward we will take a look at the advanced concepts relating to the stock market. 

Advanced concepts relating to the stock market 

After understanding the nitty-gritty of qualitative & quantitative, let's move forward with the advanced concepts relating to the stock market. It's all about understanding the stock market, at the end, which will help you grow your finances and give you an opportunity to earn significant returns in the long run. 

We all know that the stock market is like a deep-sea whose debt cannot be measured easily. So let's just understand sectors for starters. 

FYI, every sector in the industry operates differently, not a single factor is used to analyze all companies in different sectors.  

There are various sectors we can look upon but today lets just take a look at:

  • The Pharmaceutical industry

  • Banking Companies

  • Automobile Sector

In Nifty 50, the total weight for companies under Financial Services is 36.71% for Pharma it is 3.20% whereas for IT and Auto sector it is, 17.50% & 5.42% respectively. 


The Pharmaceutical industry

As far as the pharma sector is concerned, let us understand its segments. The major business segments in this sector are: 

API

The main component from which a drug is made is known as Active Pharmaceuticals Ingredients. There are various companies that make API’s in India, some of the listed ones are, GlaxoSmithKline Pharmaceuticals Ltd, Aurobindo Pharma Ltd, Cipla and more. Due to the high competition in the market, such companies do not enjoy high margins.

Also, these companies get bulk deals and any loss of a single customer affects their sales substantially.  

Formulations

This is a process in which all the components of the drug including API are combined together to form the final product. Formulations account for about 50% of total pharma exports from India.  Major players in this space are: 

Aurobindo Pharma

10 Formulations units

Cadila

9 Formulations units

Sun Pharma

9 Formulations units

CRAMS

CRAMS or Contract Research & Manufacturing refers to outsourcing manufacturing activities to low-cost service providers. To stay competitive in the market companies are increasingly outsourcing research and manufacturing jobs to increase their profitability. 

Major CRAMS companies in India are Biocon Ltd, Divis Laboratories, Dishman carbogen Amcis ltd. and more.

Biosimilars

These medicines are developed from living cells in a highly complex manufacturing process which is very different from that of a generic drug. And one of the major players in this segment is Biocon Ltd.

Banking Companies

It is very important to understand how the banking industry works. How do they generate revenue and how  money is circulated in the banking ecosystem. For that just take a look at the picture below.

So, in the business model of banks, its primary function is to accept deposits and lend money to customers. Thus, its revenue is the interest earned from loans and the cost is the interest paid to customers on various deposits. 

Moving forward lets understand some of the key terms used in the banking industry. 

Interest income: The primary source of income for a bank is interest earned on loans given to customers. In a nutshell, depositing at a lower rate and lending at a higher rate. And the difference between the two becomes income for the bank. 

Net Interest Margin: Extension of what we read in the above paragraph, Net interest income is the difference between interest received by banks and interest paid to banks.  And Net interest Margin is Net Interest income divided by Assets (NII/Assets). The higher the NIM the better is the profitability of the bank. 

Fee-based Income: Well, interest income is the main source of income for the bank but they also earn through fee-based income which is in the form of commission and revenue earned from the sale of third party products, securities underwriting & investment banking. 

CASA Ratio (current account & savings account): Current accounts & Savings accounts are the forms of deposits. These are the cheapest source of funds, banks do not have to pay interest in the current account and have to pay very minimum interest on savings accounts. 

CASA ratio shows the proportion of the current account & savings account in relation to the total deposits accepted by the bank. 

NPA: The main risk the bank faces is the credit risk or default risk and that is depicted in the form of NPA. These are those loans for which interest is overdue for more than 90 days. 

Automobile Sector

Now is the time to discuss the automobile sector. 

In India 22 people out of a thousand own a car? While in the US & UK, 980 & 850 per 1000 individuals have a car respectively. 


Take a look at the bifurcation of the Automobile Industry in India below.  

The major reform that is taking place in the automobile industry is Electric Vehicles. The EV industry is at a nascent stage with the potential to go a long way. There is a lot more to these sectors and value investing which the time constraints & sometimes word limits won’t allow covering. 😋😋

One-stop Solution

It was a long blog, wasn’t it? 😃😃

Well, learning still doesn't stop here. This was just everything in a nutshell. (coz free mai itna hi milega 😋😋) but you can become a pro in the Academy of Value Investing with the course Quest has to offer. 

Just follow these simple steps to do it:

  • Log in to Finology ONE account

  • Go to Quest

  • Go to Race Tracks

  • Then choose the Value Investing course under My Race Tracks.

This was all for today. Until then… Happy Learning!

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Ayushi Upadhyay

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A Keen Learner. Tiny, brainy, and studious, this quiet one stays in her zone until she pops. And once she does, boy, are her comebacks snappy! There is no financial question that she can't answer through her magical blog-writing. 

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