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The foundations, in the economic and financial field, are all qualitative and quantitative variables that must be included for the assessment of a business or active.
That is, the fundamentals are all the factors that economics agents they must take into consideration when defining an investment strategy or making projections.
For example, in the case of the dollar price, the fundamentals are the monetary policy dictated by the Federal Reserve System, the level of US economic activity, the demand of investors (which increases in times of uncertainty), among others.
Characteristics of the fundamentals
The main characteristics of the fundamentals are:
- They allow to elaborate projections of the different economic variables.
- They serve as a base for investors when they evaluate the future profitability of an asset. That way, they build their portfolio.
- They not only apply to assets and companies, but also to countries. In that case, macroeconomic fundamentals such as the rate of economic growth, inflation, the unemployment rate, the level of malnutrition, among others.
- On the other hand, the microeconomic fundamentals are those related to supply and demand in specific sectors. We refer, for example, to the availability of raw material, the number of competitors, production costs, among others.
- To assess the fundamentals of a company, mainly the levels of debt, the availability of cash, the profitability ratios, among others. This, in order to determine if the business is sustainable over time.
- In general, a company is considered to have a solid foundation when it has sufficient cash to cover its financial obligations. In addition, it is expected to generate positive results in your cash flow in the future.
- Companies with solid foundations are more likely to survive economic crises. This represents, in turn, a lower risk for investors.
Fundamental analysis is a tool that helps determine the position of a company in relation to its competitors, and with respect to itself in the future. Then, based on the fundamentals of the company, its potential growth is estimated, considering the different scenarios that exist.
Once these projections have been raised, the value of the company can be calculated. That way, the investor will be able to determine if the firm’s shares are trading above or below its intrinsic value.
Also, the fundamental analysis can be used to compare two investment alternatives in the stock market. In that case, indicators such as the debt to equity ratio, the acid test, the financial profit (ROE), the price-benefit ratio or PER ratio, among others.