How does fundamental analysis work
Rather than having one prescribed, universal method, fundamental analysis can be conducted in a number of ways. However, many analysts tend to use a top-down approach. This begins by considering the wider picture before progressively drilling down into the detail surrounding each market.
Let's have a look at how you might do this. Suppose you're thinking of trading on UK shares - here are some steps you could follow to analyse the market for potential opportunities:
Consider overall economic performance
Assess which sectors will be affected
Select a sector to focus on
Narrow it down
- Which companies have the largest shares of the market?
- Who is the recognised market leader?
- Are there any new and disruptive players in the market?
- Are there any imminent changes or developments that might shake up the hierarchy in the industry?
- Will any current competitive advantages soon be under threat?
It's worth noting that when you conduct fundamental analysis like this, you should always be 'comparing apples with apples' at each stage. In other words, when looking at a country's economy, you compare it with other countries' economies. When assessing industry sectors, you view them alongside other sectors. And when you come to individual companies, you contrast them with other companies in the same sector. For example, if you were looking at Barclays you'd compare it to another bank, such as HSBC, and not to a retailer like Tesco.
- Fundamental analysts generally use a top-down approach
- First they consider the overall economic picture
- Then they assess the performance of different sectors and select one to focus on
- Finally they look at companies within the sector to identify those with potential
What is fundamental analysis4 min
How does fundamental analysis work7 min
Analysing an individual company4 min
Evaluating a company's management6 min
Understanding balance sheets8 min
Analysing cash flow statements4 min
Understanding the income statement7 min
The pros and cons of fundamental analysis5 min