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How to Determine Stock Valuations for Trading

Basically, the value of a stock in trading is the amount buyers are willing to pay for the stock and the amount for which sellers are willing to sell the stock under current business conditions. The actual value of a stock shifts throughout the day and usually in a matter of seconds when the trading volume is high.

Fundamental analysis is one of the tools that investors and some traders use to analyze earnings, revenue growth, market share, and future business plans so they can determine the value of the stock and the price they’re willing to pay for or sell it. Earnings and earnings growth are key factors and are considered a part of fundamental analysis.

Common ratios used to determine a stock’s value or performance include the price to earnings multiple, or P/E ratio; price to book multiple, or price/book ratio; return on assets (ROA); and return on equity (ROE).

After considering all this data, investors decide whether a company’s stock is undervalued or overvalued. Although past performance is no guarantee about a company’s or stock’s future success, fundamental analysts believe collecting and analyzing the appropriate data enables investors to make more-educated guesses about a stock’s value.

Earnings

Using the income statement, you can learn about a company’s earnings. Remember, the three types of earnings figures to consider are

  • Gross profit, which is calculated after considering the direct costs related to sales

  • Operating income, which shows a company’s profit after subtracting operating expenses

  • Net income, which is the bottom-line earnings after all expenses, taxes, and interest are subtracted

When you encounter discussions about earnings figures, be certain that you know which types of earnings are being discussed for the stock you’re eyeing. To be able to compare apples with apples, you must know that you’re using the same type of earnings figures.

Earnings growth rate

The earnings growth rate, which shows how quickly the company is expected to grow, isn’t something you calculate. What you will find in the fundamental-analysis statistics for stocks are earnings growth rate projections made by industry analysts based on their analysis of a company’s potential earnings.

The earnings growth rate is included on websites that provide fundamental statistics. When looking for this data, be sure to check out the earnings growth rate potential at a number of those sites.

Yahoo! Finance projected these figures for Lowe’s and Home Depot

  • Home Depot’s earnings growth rate to be 13.2 percent

  • Lowe’s earnings growth rate to be 19.4percent

Clearly, at this point in time, analysts believe Lowe’s will grow at a faster pace than Home Depot.

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