The first thing you need to understand about stock analysis is that it comes in two flavors – fundamental and technical.
Putting the fun in fundamental.
First, fundamental analysis seeks to understand the comparative (against other companies in the same field) financial strength and outlook of a given company. This takes into consider things such as profitability, capitalization, trending, market conditions, management, the state of relevant technology, competition and market conditions, and the resultant forecasts.
These are all forward looking realms, each focused on the company’s future prospects. But just as important is the most current performance statistics that yield insight into profitability and performance.
From this data spring certain benchmarks, including the fabled EPS – earning per share – number, which is simply the net after-tax profit divided by the number of outstanding common shares of stock, and the equally important
“P/E” ratio – the market price of the stock versus earnings per share.
These two benchmarks comprise the stuff of comparison between two stocks, as they illustrate the level of premium (the amount by which the current price of the stock exceeds that of comparable companies) the market is assigning.
The other form of research is called technical analysis, and it is as different from fundamental analysis as apples are from oranges.
Technical analysis looks at the price swings and momentum of a stock, juxtaposed against its history and current market conditions. For example, if a stock has traded within a certain range over time, then the upper and lower limits of that trading range form a sort of barrier, which is used to gauge when a stock is likely to change direction.
When a stock breaks out of those barriers in either direction, then other tools are used to attempt to predict where it may slow or stop.
Technical analysis is all about supply and demand and trading volume, without much regard for the underlying reasons (the fundamental data) for those variables. It’s more like gravity – what goes up must go down, since when a stock goes up sharply there will inevitably be profit-taking, which will slow or stop the upward trend, at least temporarily. And, vice versa.
Technical analysis is all about trying to understand, quantify and predict the movement of a stock based solely on supply/demand data.
Mixing the fundamental with the technical.
Fundamental analysis is the bedrock of long term investing, since the performance of the company over time will ultimately dictate its long term status.
Technical analysis is the stuff of short term investing (including day trading), since short term moves often (usually) have little or no relationship to the actual performance of the company.
Of course, the price of a stock will move, sometimes drastically, based on news from the company. But usually such news comes with forewarning, and the market normally accounts for such impending news via supply and demand.
Back to the future.
The stock market is very much a futures-oriented phenomena, meaning that buy and sell decisions are based as much on forecasts and predictions as they are on actual performance. Sometimes you’ll see a stock actually go down on the day it reports significantly improved earnings over the previous year, simply because, the actual reported number, while improved, didn’t reach the anticipated level.
There is an abundance of information available on any listed company, and most unlisted yet frequently traded companies, on both the fundamental and technical fronts. The enlightened investor understands both landscapes, and applies the available insight to their own goals and investment strategies accordingly.