To The Moon

1. Fundamental Analysis: What is it?

Fundamental analysis is the study of analyzing the economic aspects of a business, industry, security, or commodity. It is primarily done for investing purposes, but may also be applied to analyze stocks, commodities, bonds, etc. Fundamentals are analyzed using the following formula:

P/E Net Income ÷ Average Price Per Share

The P/E ratio is the price-to-earnings ration. It compares the current market value of a company's stock (the price) to how much those shares (shares outstanding multiplied by price per share) would cost if they were sold on the open market. If the ratio is high, then investors expect the company's earnings to increase over time.

2. How does it work?

To determine whether a particular investment is worth buying based on fundamentals, we need to know two things about each stock: what its expected earnings are and what its current price is. So let's use Apple Inc. (AAPL) as an example. AAPL currently trades at $152.90 per share. It had $13 billion in revenue last year and earned $10 million in profit after taxes. That means that the average shareholder was paid $0.83 of profit for every dollar of revenue. However, shareholders only received $0.56 per share in dividends. Given these numbers, we can calculate the price to earnings ratio of AAPL:

$0.83 / $0.56 1.61

If we compare that to the S&P 500 Index's price to earnings ratio (which averaged 19.8 between 2008 and 2011), we can see that Apple has a higher P/E than the index. So even though Apple isn't trading at a premium to the rest of the market right now, based on fundamental factors alone, it still appears to have a higher valuation than the market as a whole.

3. When should I do it?

It can help to look at companies that are performing well financially and are likely to continue doing well in the future. In fact, many people consider a company's long term prospects when making decisions regarding their investments. We recommend looking at three factors before investing in any given company:

a. Earnings - Do recent earnings appear to be increasing? Is the trend steady or declining? Does the company seem to be able to sustain profits?

b. Valuation – Many investors believe that the longer a company stays profitable, the more valuable its shares become. While this is true, simply staying profitable doesn't mean that a company is going to stay profitable forever. There are times when a company will experience slowdowns in profitability, either due to external market forces or internal problems. It is often difficult to predict when a company might experience such a downturn, so investors who wait until then to buy may miss out on great opportunities.

c. Financial Health – Are the company's assets being properly utilized? Are its liabilities being taken care of? Have the company's financial records been audited recently by independent accounting firms? These questions are best answered by having a third party review a company's books.