Profiting from Hedge Funds: Winning Strategies for the Little Guy

Chapter 20

Fundamental Analysis

When it comes to selecting stocks, the best money managers bank on fundamental analysis. Countless articles, books, and courses have been devoted to this very extensive topic. The chief objective is to examine the publicly available facts about businesses to project their future performances. The outcome of this study helps one make educated judgment calls: fair value estimate (FVE), future price projections, analysis of potential credit risk, and so on. The data points used in fundamental analysis gleans information from or about:

• Historical and latest financial facts, such as quarterly and annual financial statements for public businesses
• Executives and boards of directors
• Competitors, along with their strengths and weaknesses
• Competitive advantages, such as patents and brands
• Target markets
• Industry in which the company operates
• The overall economy

Evaluating each of these items to compile future performance projections is a monumental undertaking, but investors need not be fazed. There are tools aplenty. The two basic approaches are top-down and bottom-up analysis.

1. Top-down: From the overall economy, industries and markets with the best prospects are determined, and the top businesses among them chosen.

2. Bottom-up: Stocks are selected based on individual business merit, and underweights any analysis of the broader market conditions.

Before forging ahead, it is best to take a breather and explore why money managers are such avid fans ...