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Sector analysisSector analysis involves identification and analysis of various industries or economic sectors that are likely to exhibit superior performance. Academic studies indicate that the health of a stock's sector is as important as the performance of the individual stock itself. In other words even the best stock located in a weak sector will often perform poorly because that sector is out of favor. Each industry has differences in terms of its customer base, market share among firms, industry growth, competition, regulation and business cycles. Learning how the industry operates provides a deeper understanding of a company's financial health. One method of analyzing a company's growth potential is examining whether the amount of customers in the overall market is expected to grow. In some markets, there is zero or negative growth, a factor demanding careful consideration. Additionally, market analysts recommend that investors should monitor sectors that are nearing the bottom of performance rankings for possible signs of an impending turnaround.[2]
Quantitative cumulative value analysis Quantitative cumulative value analysis: This method is also commonly referred to as fundamental analysis. Fundamental analysts consider past records of assets, earnings, sales, products, management, and markets in predicting future trends in these indicators and how they may affect a company’s future success or failure. By appraising a firm’s prospects, these analysts determine a stock’s intrinsic value and assess whether a particular stock or group of stocks is undervalued or overvalued at the current market price. If the intrinsic value is more than the current share price, then this stock would appear to be undervalued and a possible candidate for investment. While there are several different methods for determining intrinsic value, the underlying premise is that a company is worth the sum of its discounted cash flows (DCF). The DCF is the value of future expected cash receipts and expenditures at a common date, which is calculated using net present value or internal rate of return. This means a company is worth the combined sum of its future profits, while at the same time being discounted in consideration of the time value of money. This value, as determined by the discounted cash flow analysis or its equivalents, consists of two components:
1.Current value ratios, such as the price-earnings (P/E) ratio and price-book (P/B) ratio.[3] The PE ratio, also called the multiple, gives investors an idea of how much they are paying for a company’s earning power. The higher the PE, the more investors are paying, and therefore the more earnings growth they are expecting. High PE stocks – those with multiples over 20 – are typically young, fast-growing companies. P/B is the ratio of a stock’s price to its book value per share. A stock selling at a high PB ratio, such as 3 or higher, may represent a popular growth stock with minimal book value. A stock selling below its book value may attract value-oriented investors who think that the company’s management may undertake steps, such as selling assets or restructuring the company, to unlock hidden value on the company’s balance sheet.
2.Earnings growth which may be reflected in measures like the Prospective Earnings Growth (PEG) ratio. The PEG ratio is a projected one-year annual growth rate, determined by taking the consensus forecast of next year’s earnings, less the current year’s earnings, and dividing the result by the current year’s earnings.[4]
[edit] Management issuesManagement issues involves examining perceptions about management and perceptions by management. It includes various qualitative judgments regarding the competence of current and prospective company management, as well as issues related to insider buying, future strategies to increase operations and market share. Most large companies compensate executives through a combination of cash, restricted stock and options. It is a positive sign when members of management are also shareholders. When management makes large purchases of their own stock with private funds, it may indicate that management insiders feel the company is undervalued, or that a favorable company event will occur soon.
