The stock market and the economy are for a large part unpredictable but there are several techniques to help you pick the right stock for your stock portfolio. Fundamental analysis and technical analysis are two trading theories I’m getting familiar with.
Fundamental analysis
The way I see it fundamental analysis can help me to pick undervalued stocks and stocks with potential by studying their financial results and checking out how they perform compared to other companies in the same industry. In this article I’m not really going to go in depth into this but there are lots of websites available on the Internet which can teach you how to valuate a company.There are lots of things which you can use to compare stocks like the cash flow, debt, earnings, earnings growth, dividend, the way the company is managed, marketshare, …
There are also several ratios which can help you like the p/e ratio, this ratio can help you to interpret how expensive a stock is. For instance, if a stock trades at $100 and the company books earnings per share of $5 this stock will have a p/e ratio of 20. Basically this means that for each dollar of net income you’re paying $20. Low p/e ratios may indicate a company is undervalued while high p/e ratios may indicate a company is overvalued. However, you do have to take in mind that a lot depends on the industry of the company you’re analysing and that companies with high growth levels typically have a very high p/e ratio. To give an example, Microsoft is trading at a p/e ratio of 16.17, Google has a p/e ratio of 39.85 and Yahoo currently has a p/e ratio of 63.04.
To learn more about p/e and other financial ratios like forward p/e, PEG, price/sales, price/book, … you can do a search on Google on any of these terms or “financial ratios”.
Technical analysis
Technical analysis doesn’t really focus on the fundamentals of the company but it’s all about the stock charts. This technique can help you to predict future stock prices based on past price movements. It’s not an exact science but a bit of knowledge of this matter can help you decide when to buy or sell a stock.
The site I’m using to learn about technical analysis is StockCharts’ ChartSchool. Their articles are structured in an overview that helps you understand what technical analysis is and what it’s not, articles about chart analysis, lots of information about technical indicators and overlays, market analysis articles, a look at trading strategies and a glossary with all the financial and charting terms used on the site. It’s really worth a look if you’re planning to trade stocks, I still have to read most of the articles but what I’ve already read was very interesting. All the articles are easy to comprehend and are nicely illustrated with stock charts.