Chapter 10 Flashcards
(71 cards)
What is fundamental analysis?
A methodology used by investors to assess the value of investments and determine whether to buy or sell them.
What is the basic idea of fundamental analysis?
To assess the ‘true’ or ‘fundamental’ value of an asset and compare it to its market price.
What are the two main stages of fundamental analysis of equities?
- Constructing a financial model to estimate future cash flows and earnings
- Using estimates to determine if securities are over- or under-valued
What is the discounted dividend model?
A model that values a share as the discounted present value of future dividends.
What factors affect equity prices?
- Future dividend payments
- Future capital growth
- Risks of the business
- Uncertainty of estimates
How does risk relate to fundamental analysis?
Risk refers to the statistical variability of returns and is interpreted as variance or standard deviation of investment returns.
What is the definition of fundamental share analysis?
The analysis of a company’s share value and potential for future profit and dividends based on accounting and economic information.
What influences the fundamental value of a share?
- Quality of management
- Quality of products
- Prospects for market growth
- Competition
- Input costs
- Retained profits
- Historical performance
What is the Price Earnings Ratio (PER)?
A ratio defined as ordinary share price divided by earnings per share.
What are some sources of information for fundamental analysis?
- Company’s published accounts
- Financial press
- Trade press
- Public statements
- Regulatory information
- Company visits
- Discussions with management and competitors
What is insider trading?
Trading based on privileged information not available to the public, often illegal.
What factors should be investigated when assessing management ability?
- Financial accounts and ratios
- Dividend and earnings cover
- Profit variability and growth
- Level of borrowing
- Level of liquidity
- Growth in asset values
What does fundamental analysis help investors to do?
Estimate expected returns and assess risk to determine the fundamental value of a share.
Fill in the blank: The two formulae for the discounted dividend model are ______.
[key learning term]
True or False: Different investors will produce the same estimates of the fundamental value of a share.
False.
What is the importance of comparing estimates to other companies?
It provides context for evaluating the performance and valuation of a company relative to its peers.
What is the significance of trends in investment ratios?
Trends are usually more important than absolute values, as they indicate changes in fundamental profitability.
What is the fundamental share value used for?
It is used to compare with the market value to decide on buying or selling shares.
How is the price earnings ratio (PER) defined?
Ordinary share price divided by earnings per share.
What does a higher or lower than industry average PER indicate?
It may indicate that the share is over-priced or under-priced.
What might an analyst do if a share appears under-priced?
They may purchase it ahead of the anticipated market correction.
What factors can influence the decision to buy or sell a share?
Fundamental value, market price, analyst’s required rate of return.
What is the importance of credit analysis for bond investment?
It assesses the likelihood of an entity meeting interest payments and principal repayment.
What are some possible reasons for a company seeking finance?
- Organic growth
- Acquisition
- Investment in an associated company
- Capital expenditure
- Dividend/share buy-back
