Learn to invest with Buffett

Chapter 37

Chapter 6 Winner or loser——Buffett’s secrets in selecting generals
Chapter 6 Section 1 One of the stock picking tricks of the stock gods: fundamental analysis of the company

What every value investor should do before choosing a stock is to analyze the fundamentals of the company.

--Warren Buffett
Fundamentals are the only determinant of the long-term investment value of stocks. What every value investor must do before choosing stocks is to thoroughly analyze the fundamentals of the company.Many investors do not have a systematic analysis method, and even make hasty buying decisions based on a short-term or partial favorable factor.Investors are easily influenced by some perceptual factors and make wrong operations, such as listening to other investors' opinions, or buying stocks if they have a soft spot for a certain consumer brand in life, and so on.Buffett's success in the stock market relies on his thorough analysis of "fundamentals" rather than his clever use of the "news market".It is precisely because of "honest" investors like Buffett, and the high market returns on Buffett's rational investment behavior, that the U.S. capital market has become the most stable, mature, and dynamic financial market in the world; As the "barometer" of the economy, the long-term stability and health of the U.S. capital market, in turn, has a good feedback effect on the economy and has become the fundamental guarantee for the long-term strength of the U.S. economy.

Fundamental analysis is mainly to analyze the company's earnings, sales, return on equity, profit margins, assets and liabilities, and the stock market, as well as the company's products, management, and industry conditions.Fundamental analysis can identify whether a stock has investment value by examining the quality and attractiveness of a stock.

So, what is the most important thing in fundamental analysis?The profitability of a company is the most important factor affecting the stock price.That is to say, only buy stocks of companies with increasing profits and sales, high profit margins and return on equity.Earnings per share (a company's total after-tax profit divided by the number of shares of common stock outstanding) can be used as an indicator of a company's growth and profitability.

Buffett believes that 3/4 of the best-performing stocks are companies with good growth. Before the stock price rises sharply, the average annual growth rate of earnings per share reaches or exceeds 30%, and this has been the case for three consecutive years.Therefore, all focus should be on companies with annual earnings growth rates of 30% or more for three consecutive years.

In addition, there are some other factors in fundamental analysis.The company should have its unique new products or new service items, and its expected prospects are also encouraging.You should understand what the companies you invest in are doing.The company should be appreciated and owned by a large institution, and in most cases it should be part of some advanced conglomerate.The basis for your personal research should be to know how many good mutual funds, banks, and other institutional investors are buying the stock.Large institutions usually only buy a large number of shares of a certain stock after detailed fundamental analysis.

Typically, most fundamental analysts on Wall Street use one or more of the following methods to estimate a company's stock price or value.

1. Target stock price analysis method

A very common analytical technique is to construct a company's expected performance model to predict future net income per share.This number is then combined with the projected price-to-earnings ratio to arrive at a "target stock price."Typically, target stock price analysis concludes its analysis process in this way: If earnings per share are estimated at $1999 in 3, and assuming a market price-to-earnings ratio of 25, the target stock price for McDonald's is $75.If the current price is $65, then the investment firm will advise investors to buy the stock.

2. Relative Value Analysis
Relative value analysis is often used in conjunction with target stock price analysis.Relative value analysis begins with choosing a measure of value—the price-to-earnings ratio is most commonly used—for the company, similar stocks, and peer competitors.When the relative value analysis method compares the stock value of companies with different characteristics, in addition to the price-net income ratio, you can also choose the price-book value ratio, price-sales ratio or price-income-growth ratio as Metrics.

3. Discounted cash flow analysis
In discounted cash flow analysis, the value of a stock is based on the analyst's estimate of the company's expected cash flows, discounted at an appropriate discount rate.The most basic discounted cash flow model is the dividend discount model.In the dividend discount model, the value of a stock is the present value of the dividends investors expect to receive.Using the dividend discount model, the analyst first estimates the future dividend growth rate and the return on the stock required by investors, and then discounts the expected stock to arrive at the stock's value.

Another model for discounted cash flow is the capital free cash flow model, which calculates the cash flow left over after paying working capital, capital expenditures, debt principal and interest, and preferred stock dividends.This cash flow is then discounted by the company's cost of capital to arrive at the value of the stock.The final model of discounted cash flow analysis involves the company's free cash flow.Analysts using the discounted cash flow approach tend to give a simple statement of value as follows: "On a cash flow basis, we estimate a fair price for McDonald's stock to be $80 per share. Given the current price of $65, We recommend that you buy stocks."

Many investors use fundamental analysis as the basis for their long-term buying and selling decisions.The basic investment rule of the fundamental analysis method is: if the price of a stock is lower than its intrinsic value, buy the stock; if the stock price is higher than its value, sell the stock.

There are also some investors who predict the future of the market through fundamental analysis. They always think that the future direction of the market can be obtained by studying the fundamental situation. The future can be grasped by the basic information.But Buffett believes that this is a fundamental mistake.

Investment motto:

The function of fundamental analysis is not to predict the market. Its greater role is to show the reasons for market price fluctuations, so that investors can understand and understand the market more clearly, so that they will not be confused about the market because of ignorance of the fundamentals. The ups and downs of prices feel confused and frightened.What investors need to do before choosing an investment target is to thoroughly analyze the fundamentals of the company, so as to determine the advantages and disadvantages of the company.

(End of this chapter)