Behavioral finance FAQ / Glossary (Fundamental)
This is a separate page of the F section of the Glossary.
Dates of related message(s) in the
Behavioral-Finance group (*):
Year/month, d: developed / discussed,
Fundamental analysis (FA), valuation, value
01/5i,10i,12i - 02/8i - 03/2d/3i 06/3i
+ see valuation, fair value
+ prospective analysis
+ analysis presentation
+ other kinds of stock analyses seen
in this glossary: behavioral, quantitative,
Nothing but hard facts.
The "fundamentals" (or economic fundamentals) of an asset comprise
all important data and information on the asset itself and on
the economy in general.
If the asset is a stock
For a stock, such information shows what is
the business and financial situation of:
The company itself:
Its accounts (financial results: balance sheets, income
statements, for the last 5 years for example...),
They show in particular the company's profitability, solvency
Its current activity as well as its strategy and projects,
Its resources, competences and management,
And altogether its strengths, weaknesses, opportunities,
threats (what is called a "SWOT" analysis).
Its economic environment:
Its economic sector(s), and the neighboring industries that can
have an incidence on it/them.
The company's market position relatively to the other
players (customers, competitors, suppliers...)
The local and global economies: economic growths, monetary
Notably the evolution of the general "business cycle"
as well as the long term macroeconomic prospects.
Asset market information are not invited here
Market mood, please wait outside!
As seen, the elements above are strictly "endogenous" information,
which exclusively address the company life in its economic ocean.
Better stress the obvious: fundamentals do not
include"exogenous" data about the asset's
market behaviorand performance (price,
return, volatility evolution...).
This leads to tell that fundamental analysis, however crucial for investment
decisions, does not provide the only information that investors, even
hard core "value investors", need or use.
=> See the other kinds of stock analyses mentioned in this glossary:
behavioral, quantitative, technical.
From fundamentals to asset valuation /
business valuation / stock valuation
Not only a figurative painting,
but also its pro-forma invoice from the gallery.
To investigate fundamentals is normally the core part of an asset valuation.
When the asset is a stock (or more generally a business), what
is called fundamental analysis (or just financial analysis, or
security analysis or stock analysis) includes the following steps:
1a) Gather. and analyze
1b) Make rational projections
on the company's future results.
For more details on
what elements are
studied, see the article
2) From them, calculate what is called the
stock (or business)
"fair value" or "intrinsic value"
Estimate a theoretical /
potential price that is
supposed to reflect
perfectly the general
and those of the firm.
3) Take into account that valuation,
to deem if it is opportune to
buy the stock - if possible
with a long term view - or sell it
Actually this is more the the decider
job than the analyst one.
It is also up to him to determine its
buying or selling "objectives".
Another motive could
be, before granting a
(*) loan to a business
or buying its bonds to
evaluate its solvency.
Here the purpose is to
assess,not the equity
the firm's future
(*) But don't forget that whatever the goal of the analysis:
* There are similarities in the aspects to investigate.
Detectives are detectives and clues are clues.
* Knowing the company's financial strength is crucial also for
EMH and fundamental) analysis
Market shopkeepers tell you that the prices on their shelves
are the fairest.
They say the market already did for you the homework to assess
the asset value.
Hmm, better dig deeper by yourself to see if they offer you a
rusty nail or a gold coin.
The EMH (see that acronym) considers that the stock market quotes always
the right price, by taking into account all available information (that
includes, even in the strongest EMH case, the unavailable information that
If we accept this theory and see the market as a fair
wizard, there would be no opportunity of arbitrage,
no need to buy or sell (*).
Thus, fundamental analysis - as well as any kind of analyses - would be
(*) Except maybe when the decider's risk attitude change, or when he
needs the money back, or when he has a sudden inflow of it
Moreover, the EMH assumes also that the variable factor affecting prices
and returns, and the "risk premium" (see that phrase) evolve in a
random walk (RWH, random walk hypothesis).
If we accept this, here again, there would be no need to make analyzes.
We just could decide at random, as the fabled chimpanzee that
throws darts on the newspaper stock quote page (the beast does
not use a laptop). Magic, isn't?
Between you and me, don't expect too much of that hypothesis,
and don't always take market prices as their face value!
Fundamental financial data
01/5i,10i,12i - 02/8i - 03/2d/3i 06/3i +
see valuation,fair value + prospective
analysis + analysis presentation + the
other kinds of stock analyses seen in
this glossary: behavioral, quantitative,
Looking at the horse from all sides to guess its potential value.
To do its job, a fundamental analyst collects and combines
information (called fundamental data) from:
1) The general macroeconomic situation (interest rates, exchange
rates, economic growth..),
2) The economic situation of the main industries and markets,
The geographical locations' traits and economic prospects,
Situation and evolution of the customers,
Situations of the industries in or with which the firm
3) The firm's historical and current fundamentals:
Financial data: figures from the past and present
income accounts and balance sheets,
For example, analysts love to calculate financial ratios
and to compare them
* From year to year
* Also with similar corporations.
Economic traits: organization and means, markets, growth,
4) Its business projects and economic and financial
prospects and risks (it entails scenarios and to
estimate their probabilities)
Obviously, what are lacking here are the market attitude-making
Behavioral analysis supports fundamental analysis, as a needed effort
to start with a rational valuation, but BA adds another step:
the stock "profile" analysis and an estimate of its "image" bracket
(see those words).
More precisely, for a fundamental valuation,
what key expected financial data to use?
Discounting the future.
The task is complete only after a calculation gives what is considered a
"fair" value estimate.
There are various criteria for this calculation, linked to the company
performance or to investor interest, which normally would converge:
If seen from the
point of view of:
This value calculation
can be based on:
The firm's performance
The firm's expected cash
And / or its expected
The investor's interest
The expected dividends,
Plus the expected resale
value of the firm / the
stock at the end of the
To compute the value, all those expected goodies are discounted with an
adequate rate of return that includes a market risk premium
(see an example in the "expectancy" article).
Fundamental investors / traders
02/10i + see fundamental
analysis, value investing,
growth investing, PER effect
Is it worth the price?
Fundamental investors are those who base their buying / selling
decisions on fundamental analysis / fair price valuation.
Serious fundamental analysis supposes a lot of homework to scan
the firm's situations and to build prospective profit / risk scenarios.
Some narrower "fundamental" analysis /
investment schools, with their own biases
Value or growth? State your market religion!
Some investors are anchored on only some fundamentals aspects,
by using - as an heuristic - over simplified benchmarks.
This makes for narrower schools of thinking among fundamental investors,
with their own bias, such as:
1) Investors that are set on "value investing"
(see detailed article).
They try to buy stocks that became underpriced (value stocks)
Their main criterion (*) is usually related to the current corporate
profits (**) compared to the present stock price: see PER (P/E) -
(*) For "pure" value investing. In a more flexible approach
some future projection is also done.
(**) and/or, for some of them, on the present book value
(see PBR - P/B).
That practice might explain what some theoreticians consider, under
the names of P/E effect or P/B effect, that a low P/E or P/B is a good
predictor of a price rise.
On the other hand, this focus on current data might also explain that
analysts stay anchored on past evolutions, while dominant investors
might bypass them to detect better the stock recovery prospects.
2) Investors looking for "growth investing"
(see detailed article).
They focus on the past profit growth, and they extrapolate it in
expected profit growth.
One simple tool for growth investors is to use PEG ratios
(Growth rate / PER) as stock benchmarks.
(*) To find those messages: reach that BF group and, once there,
1) click "messages", 2) enter your query in "search archives".
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