Question

Question
How do you find whether a stock is undervalued or overvalued? Give one example and explain.
Discuss the difference of fundamental analysis vs. technical analysis.

Answer 1

There are various ratios to determine whether a stock is undervalued or overvalued. P/E (price to earning) ratio is such a ratio.

Suppose, a stock's P/E ratio is 10 and industry's average P/E ratio (in which this stock belongs to) is 5. So , an investor you are paying $10 to earn $1.However, industry average tells you that you should pay  only $5 to earn $1. So, this stock is overvalued .

Similarly, if the P/E ratio of the stock is 3, then the stock is undervalued.

Fundamental Analysis analyzes the past trend of company's financial statement, considers company's expansion plan and forecast the future financial statement and try to determine stocks value by discounting the future cash inflow into present value.

Whereas Technical Analysis assumes historical repetition of price and try to forecast the price of stock from volume and price data. They give importance to certain pattern,mathematical ratio to determine stock's momentum and future price.