Tuesday, June 4, 2024

Fundamental Analysis Is Relatively Easy Until…

Fundamental analysis, or FA, is the analysis of a company’s financial statements, the said company’s environment (including strengths and competitors) and the whole economy in general. Hence, for The Bedokian Portfolio, FA is done over three levels that consisted of the company at the lowest, followed by environmental factors, and then economic conditions at the highest.

There are many financial sites providing the latest figures and ratios of a company. There are a few places where one could look up on market data of the sector/industry where the company is in. Also, there are country data showing the latest economic information such as gross domestic product, interest rates, etc. Usually in an FA, some, most or all these numbers are gathered, crunched together, and the results interpreted to make the decision of whether to go into the counter.

Yet, the biggest challenge comes not from the above, but rather the greatest unknown factor of all, the future. Sure, we can get leading indicators such as consumer confidence indices, yield curves, etc. to predict, but we cannot precisely pinpoint the exact outcome.

However, if done right, past and current results do somewhat reflect the potential performance in the future, though it is not indicative (hence, past performances are not indicative of future results, a phrase which is commonly encountered in investment literature). What I meant is to guesstimate (portmanteau of the words “guess” and “estimate”) by using available data, plus a judgement call on the trends of the future, to decide. We need to know that we do not know exactly what will happen, but at least we are making a call with the highest probability of the outcome that we wanted happening.

An example would be the news of inflation happening around. With inflation, by textbook economics central banks with interest rate policies would try to raise rates to combat it. This in turn would bring some stimulus to the banking sector, but also meant that it would hurt companies with huge debt/leverage. Also, we need to identify which sector/industry and companies, besides banks, benefitting from all these potential goings-on. Yes, it is not a simple example, but these were what went through my mind back in 2022, among others, but I still consider myself slow as other people had also anticipated and acted earlier than me.

A simpler way would be to go the Buffett-ish style of going for wider-moat, resilient companies with a strong and healthy balance sheet and cash flow. Yes, we can go almost no wrong on these as their future are somewhat safe at least for the next five to ten years or so (barring any black swan event, which is a we don’t know what we don’t know thing).

The conclusion here is there is no right and wrong method of FA especially looking at things that have not occurred. We try not to get exact answers but justify ourselves by trying to get as close to it as possible to increase the chances of profitability.

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