Without the right information, jumping into the stock market can feel a lot like gambling. No one can predict 100% how stocks will perform, but there is a tried and true method that investors rely on to better understand their odds. This is known as stock analysis.
In this guide, we’ll give you the fundamental data points you need to analyze a stock and show you the different strategies that investors use so you can make smarter decisions.
What is Stock Analysis?
Stock analysis helps investors and traders translate complex financial data into actionable insights so they can make informed buy and sell decisions.
This means a close examination of past and current data such as historical share performance, financial statements, market indicators and industry trends. Investors interpret that information to help them get a better sense of whether a stock is likely to go up or down.
Stock Analysis Methods You Can Use
Fundamental Analysis
Fundamental analysis is the go-to for patient investors and helps determine the intrinsic value of an asset. It focuses on financial metrics and ratios like earnings per share or debt to EBITDA to offer a clear picture of a company’s long-term potential and stability. Both qualitative and quantitative analysis are elements of fundamental analysis and help form a comprehensive view.
Fundamental analysis uses:
- Earnings Per Share (EPS): They show the amount of profit or loss a company generates for each outstanding share.
- Price-to-Earnings (P/E) Ratio: It determines how expensive a stock is and it’s calculated by dividing its price by the EPS.
- Price-Earnings-Growth (PEG) Ratio: PEG ratio helps determine whether a stock is undervalued, fairly valued or overvalued.
- Price-to-Sales Ratio (P/S): It shows how much investors are willing to pay for each dollar of a company’s sales.
- Price-to-Book Ratio (P/B): Another metric that helps determine if a stock is undervalued or overvalued. It compares a company’s market cap to its book value of equity.
- Debt-to-Equity Ratio: Shows the amount of debt a company uses to finance its operations in comparison to shareholder equity.
- Debt-to-EBITDA: It is used to measure the company’s ability to pay off debt using its earnings.
- Revenue: It’s the total amount of money a company brings in before subtracting expenses.
- Dividend Yield: It shows the return investors get on their investment.
- Company Reports and Projections
Technical Analysis
The idea behind technical analysis is that stock charts give you all the information you need to make educated forecasts on where shares may head next. The strategy analyzes history and trends through statistics gathered from trading activity, such as price movement and volume. It requires in-depth market understanding and the ability to read trading charts.
Technical analysis may look at:
- Trading volume
- Price movement trends
- Market patterns
- Opens and closes
Unlike fundamental analysis, technical analysis doesn’t focus on a company’s financial health. Even if its products are obsolete or its management is weak, its stock might be a good pick from the perspective of historical trading patterns.
Qualitative Analysis
Qualitative analysis looks at the qualities and strengths of a business that are harder to quantify such as leadership, products and its place within an industry. It’s a good supplement to fundamental analysis because it can fill in color around the numbers.
Apple, for example, has built a strong brand identity by focusing on innovation, marketing and customer experience. Its brand identity has translated into consumer loyalty which is a valuable asset for business growth.
Qualitative metrics to look at include:
Business offerings: Is the company addressing the needs of the target market? Are its products, services and brand identity in tune with current market demands, and is it innovating for the future?
Industry Placement: Does the company have a competitive edge that can drive further success? Does it have a patented process or product that protects it from competition?
Company Leadership: Do the top executives have relevant experience to drive business growth? Do they have a proven track record of success in similar environments?
Future Growth: Is the company's industry recession-proof? Is it a new or growing industry? Does the industry have strong long-term demand and growth?
Quantitative Analysis
Quantitative analysis is similar to technical analysis in that it focuses on numbers and historical data to try to predict the price movement of a stock. Investors use statistical modeling and mathematical techniques to create algorithms and computer models to lay out trading strategies. The method is most often used by institutional traders.
Quantitative analysis alone may not be enough to provide accurate information, but it can be an objective starting point. Combined with qualitative and fundamental analysis, it can offer a more comprehensive look at a stock's potential.
Stock Analysis: Advantages and Limitations
Stock analysis is a complex process, but if you put the work in, it’s one of the most valuable skills an investor can have. By taking a lot of the guesswork out of picking stocks, it can help you narrow down the winners and losers in a crowded field.
That said, stock analysis isn’t 100% accurate. Even companies with solid fundamentals can underperform. It also can’t take unforeseen events into account. That’s why analysis needs to go hand in hand with portfolio diversification to protect you from the volatility that can come with owning a single stock.
Mastering Stock Analysis Over Time
Like any skill, stock analysis has its limitations. No method is 100% accurate but you can improve with practice. As you explore different strategies, you’ll gain experience and confidence in decision making. It is not possible to predict an outcome with certainty but consistent analysis can help build a balanced portfolio.
Frequently Asked Questions
How can a beginner analyze stocks?
You can start by gathering as much information related to a company as possible, such as news articles, financial statements or analyst recommendations. Then filter it to the most relevant information and compare the numbers with industry peers. You’ll start to see if a stock is underperforming or outperforming compared to current prices.
What is the most basic method of stock analysis?
The most basic way to conduct stock analysis is to evaluate the financial health of a company through metrics like earnings and revenue.
What is the best way to analyze a stock?
There’s no guarantee that a particular method used for stock analysis will generate positive results. However, the best way to start stock analysis is through fundamental analysis.
About Vandita Jadeja
Vandita Jadeja is an expert writer and editor with over a decade of experience in financial journalism. She holds expertise in research, writing, content strategy, SEO optimization, social media, and digital marketing. Her work has been featured in The Motley Fool, InvestorPlace, Business Insider, Nudge Global, TipRanks, 24/7 Wall St., and Joy Wallet. She believes in research, simplifying complex topics, and writing for the audience.
