Fundamental and Valuation Are Two Basic Methods of Stock
By Saghir Aslam
Irvine , CA
(The following information is provided solely to educate the Muslim community about investing and financial planning. It is hoped that the ummah will benefit from this effort through greater financial empowerment, enabling the community to live in security and dignity and fulfill their religious and moral obligations towards charitable activities)
When professional security analysts evaluate a stock, they usually focus on a number of considerations, two of which are fundamentals and underlying valuation. You may wish to take into account these evaluation methods when considering a stock for your portfolio. You can find the information you need from annual or quarterly company earnings reports, from reading the newspaper or by asking your financial advisor with whom you are working for more information.
Fundamentals include the outlook for the company and for its industry. In looking at a company's fundamentals, some of the criteria you will want to consider are:
1. Earnings growth history and outlook.
2. Strengths in products or services versus the competition.
3. Management's track record.
4. Industry conditions in general.
5. The company's balance sheet (cash and debt levels).
Valuation refers to the market price of the company's stock in relation to its fundamentals. Even if you locate a company with solid fundamentals and a bright outlook for the future, the stock may not be attractive if it is "too expensive."
How do you determine whether or not a stock is too expensive? One common measure of valuation is the price/earnings ratio (P/E). This tells you how much investors are willing to pay for each dollar the company earns. The P/E ratio is the price of the stock divided by its earnings per share. If a hypothetical stock's P/E ratio is 15, it means that for every $1 in earnings, investors are paying $15. In certain industries, cash flow is more important than earnings, so the price-to-cash-flow multiple may be a more significant measure in these cases. During the last couple of years, many investors have not considered the P/E ratio; this is why some stocks have a very high P/E ratio.
The significance of these ratios is determined by comparing them to those of the stock market in general or of comparable companies. For high-growth stocks, the P/E is often measured against the projected earnings or more. When this ratio falls below that of the market or a peer company, a stock may be attractive for purchase. On the other hand, there are reasons for a stocks’ P/E ratio to be depressed, such as a company’s fundamentals deteriorating. Occasionally, some news could deteriorate the prices of the stocks. In this case, you must do extra homework and research.
Fundamentals and valuation are just two of a number of considerations on which professional analysts focus. You can use these two basics to help identify stocks that may be suitable for your portfolio.
The key to selecting stocks is to look for the leading sectors and within each sector, select the leading companies. With proper research and homework, Insh Allah you will be successful.
(Saghir A. Aslam only explains strategies and formulas that he has been using. He is merely providing information, and NO ADVICE is given. Mr. Aslam does not endorse or recommend any broker, brokerage firm, or any investment at all, or does he suggest that anyone will earn a profit when or if they purchase stocks, bonds or any other investments. All stocks or investment vehicles mentioned are for illustrative purposes only. Mr. Aslam is not an attorney, accountant, real estate broker, stockbroker, investment advisor, or certified financial planner. Mr. Aslam does not have anything for sale.)