Fundamentals of Stock Analysis — A step-by-step process to analyse stocks #StockMarket

[00:00:00] Speaker 1: Hi everyone. Welcome to today's video. So today we are going to understand how much knowledge of finance do you need to make money in the stock markets. Now, many of you comment on my videos that Akshayath, you analyze stocks really well. So can you please give us some tips on how we can get started in the stock market? Which book should we read? Which course should we take? So I'll break down this topic on this video that what are some sequential steps you need to take to make money in the stock markets? I'll explain a simple four step process, nothing major. I'll give you real world examples. So please stay tuned till the end of the video. And there is a homework for you, right? So please don't run away and pause this video. It's a very interesting homework. Please complete it. That would indicate to me that you actually learn something from my videos. And please press the like button. That would mean a lot to me and it will make me super happy. So let's get started. And let me start this video by asking you a very simple question. The question is that what percentage of people or what percentage of retail investors do you think lose money in the stock markets? The short answer is that there are a lot of people who lose money in the stock market. In fact, majority of the retail investors lose money in the stock market. Some studies indicate that close to 95% retail investors lose money in the stock market. So almost all the retail investors net to net lose money in the stock market. This is a very scary situation. But there is a very important lesson here. What is the lesson? The lesson is that majority of the retail investors lose money in the stock market because they are not fundamentally educated about the stock markets. If you have knowledge in the stock market, you can make money. Big players like Rakesh Janjanwala, Radhakrish Ndhamani. They have been making insane amount of money in the stock market for decades. So it's not a blind game that you just come into the stock market, make random bets and just make money in the stock market. So the lesson is that if you're a retail investor, then you must learn about the stock market and then only enter it. So stock market is a game where people with knowledge make money and where people with bad knowledge lose money. So it is very important for you that if you're interested in the stock market, you understand the following four points about it very, very systematically. Point number one, you need to have a basic understanding about finance. More importantly, you must have an intuitive understanding about finance and business. Because at the end of the day, in the stock market, you're investing money in companies, which are businesses. Therefore, you must understand fundamental analysis. How good the fundamentals of a particular business are. Number two, you must understand what the industry outlook is. Is it likely to grow or shrink? You must also understand some of the basic ratios. I'll speak about it in a minute. But you must have a basic understanding of financial ratios, how to analyze businesses, how to analyze basic stocks. So point number one is that you must have a basic understanding of finance. Now, why is it important? Because when you are investing your money in the stock markets, for example, if you're going and buying Bharti Yatil, or if you're going and buying HUL or Tata Motors, what are you doing? You're eventually buying a business. So you must at least understand that what the business looks like, what are some of the good things, bad things about Tata Motors, some of the good things, bad things about ITC. Similarly, you must also understand what the industry outlook is. So this is called as forward looking analysis of different industries. So you must pick certain cues, which industries are going to grow and which industries are going to shrink. Similarly, you must understand basic ratios. You must understand how to look at the balance sheet, at least the basics of it. So now let me illustrate this point by giving you two real world examples here. So let me jump to ticker tape and let me talk a little bit about industry analysis. What is it that you need to keep in mind when analyzing different industries? So you might have read a lot of articles around telecom industry. The telecom industry in the past has been very unprofitable. There have been a bunch of companies, bunch of mergers and acquisitions that have happened in the telecom space. And eventually we are moving to a point where there are going to be two or three key players. So which are two, three key players in the Indian telecom space? One is Jio. Of course, it's Reliance. So many international investors like Google, Facebook are pouring money in Reliance Jio. And it is a massive stock from that angle. So of course, you can understand just by looking at the mergers and acquisitions that is happening in this industry that something big is happening in this industry. Reliance is focusing its almost entire business now on Jio platforms. They are moving away from the oil and gas industry. So if I were to ask you a simple question from this discussion and tell me in the comments that do you think that oil and gas industry is dying? Is it going down? Comment yes or no. Second, do you think that given this information, what I have told you and this is something that you would read in news, you will consume information about. Do you think that the telecom space, is it growing or shrinking? So the correct answer is that the oil and gas space is going down, unfortunately, and the telecom space is going up. So what are some of the major players in the telecom space? Reliance Jio is there. Airtel is there. These are two prominent companies right now. Now, if we go and take a look at Bharti Airtel stock, you will see a bunch of information being played out, right? So if you are doing industry analysis, what is the first thing that you will consider? You will consider the first question as that, hey, is Bharti Airtel going to survive in this race? The answer seems like yes, there is going to be Reliance Jio and Bharti Airtel is surviving. So what gives us that strength to say that Bharti Airtel is going to survive? So let's look at financials very quickly before jumping into the financials. What did we do? We did a very quick industry analysis and ascertain that telecom stocks look fine. It's a growing industry, good industry to pick. Second step, what are we going to do? We are going to do stock specific analysis, right? So we are looking at Bharti Airtel. Why? Because our hypothesis or our belief is that Bharti Airtel is going to go up going forward. Right? So let us validate that. Now, why am I saying that Bharti Airtel has a good chance of survival in this race of acquisitions, mergers and whatnot? The reason is that if the revenues are growing for any company, it means that its sales are going up, right? People are still continuing to use Bharti Airtel. And that is one of the surest signs that, hey, this is a very positive sign, right? Irrespective of whatever else is happening, right? So one is that the company is able to sell more units of whatever product it is selling. And this has gone up in the last few years. There has been a consistent growth, which is good. Number two, what specific thing you need to know in terms of fundamental analysis? You must understand that, okay, hey, the company is generating revenues, but is it still profitable? If not, why not, right? So here, let's take a look at net income. So you will see that, hey, some years it has been positive, some years it has been negative and it has been negative. So this looks like a worrying trend. Now, after looking at net income, you might get really stressed out that, hey, you know what, this is a loss making company and something might be wrong. Most of the occasions, the equation holds true that if the company is making consistent losses, then probably it's a bad company to invest in. But you need to see this in conjunction with the entire industry, right? Don't just look at one single stock. Look at the entire industry. So you can compare Bharti Airtel stock with its peers. For example, if we take a look at who are the peers or comparators of Bharti Airtel, right? So you will see that Tata Communication Limited is one of the peers, right? So let's look at the financials of Tata Communication. Now, here we are. So total revenues, have they been growing for TataCom? The answer is no, right? It has almost stayed flat since 2018. Net income has been negative, negative, negative, and then suddenly it became positive. Now, this is a very interesting thing, right? That one company, Hearti Airtel, its revenues have been going up, but its net income is still fluctuating, negative, positive. But Tata Communication, its revenues have stayed stable, but its net income has become positive. Now, why does such a scenario play out? You need to further investigate in terms of understanding the industry. So essentially what happens in the telecom industry is that the company first has to build a lot of infrastructure. For example, they have to buy a spectrum, right? 4G, 5G. Then they have to establish data cables. Then they have to establish offices, hire a lot of staff, and then they start selling the internet or any other additional services. The same scenario played out when Jio was launched. The Jio was incurring massive amount of losses, insane amount of losses when they started doling out internet for free. But once people bought Jio services, they stayed put, right? So the customer switching was very less. Similarly, the customer switching from Airtel to Jio is also very less. So that's a good sign. That's a good matrix that you need to consider. And both Bharti Airtel and Jio are doing well on that bit. That's point one. And point two is that now this net income actually becomes positive for infrastructure heavy industries as the sales pickup. So the point that we need to note down for our telecom based industry is, and this is something that you will understand if you read a lot of articles around the telecom industry that telecom industry stocks are good if the customer switching is less and the revenues are growing. So from that angle, Bharti Airtel is a good stock. Now, this is not a stock buying recommendation. I'm just trying to tell you how to do industry analysis and firm analysis. This is stuff that people would not teach you. Please understand this fundamentally and do it from a learning purpose. So this is how you do industry analysis. This is how you do basic stock analysis. There are a bunch of different things depending on the stock. But this is where you get started. Now, let me move on to the next point, which is about analyzing financial ratios. Now, I'll make a separate video on this, how to analyze financial ratios. But in case you're just getting started, you need to understand two, three things about financial ratios. First and foremost, there is a lot of misinformation that, hey, if the PE of a stock is high, do not buy it. Or if the debt of a company is very high, do not buy it. It really depends on the industry again. For example, on the previous case, Bharti Airtel, of course, they are going to have debt because they are an infrastructure heavy driven company. They have to establish so much infrastructure. They have to buy spectrum whatnot. So they have to spend a lot of money upfront. So at that period of their business, the debt will be high. But as the money starts rolling in right after a while, the debt will go down. So if the debt is high on such businesses, it is okay. They will still survive. But if the company is very small and it is using capital inefficiently in an industry where companies do not have high debt, then of course, that's a bad company. So just don't generally assume that a debt is bad. It really depends on the industry. Second, many people believe that the price to earning ratio, if it is high, if it is greater than 30, then do not buy the stock. That is completely incorrect. So let me prove that via an example. So let us look at the finances of one of the top stocks in India right now, which is HDFC asset management company, also called as HDFC AMC. Now, if we take a look at the PE ratio, so let us compare rather with peers. So you will see that HDFC AMC has 46 PE ratio. Now, if you ask me that would you buy this stock? The answer is yes. I'm actually buying this stock, right? When Bajaj Holding has only 11.84, right? Nippon has 36. This has 23. So why are you buying this, right? Because as I explained on one of my earlier videos also, that PE ratio is also an indicator of growth. People are giving this stock a high PE because they believe that going forward, this company will grow. Now, what is the way to check if a company will grow or not? And then you can ascertain whether this company deserves a high PE ratio or not. So let me quickly show you that how you can check if a company can actually grow. Now, a bunch of different things will go into it. But first and foremost, you must see that if the company has a history of growth. So if you take a look at the sales of the company. So if we take a look at 2016, the sales were approximately 1500. And now it has gone up to 21.94 in a matter of five years. So the company knows how to grow. The profit has more than doubled, right? More than doubled in a span of five years, which is great growth for a company with such a high capital under management. Now, this is a big company and it is increasing its profit at a rate of 2x in five years. This is massive growth, right? This is massive growth because the company itself is quite big. So this growth is very high. So the point I want to prove is that the company knows how to grow profitably. It has done it in the past. And if the industry outlook looks good, then this company can again quadruple its sales, quadruple its profits. Why does this happen? Because companies, as they become bigger and if they know how to churn out profits, their ROCE becomes very high, right? So if you check the ROCE for HDFC-AMC, it is 39.9, which is massive. It shows that if you're putting or if you're giving 100 rupees to HDFC-AMC, it can churn out a profit of approximately 40 rupees, right? Which is massive, which is a massive ROCE for a company like HDFC. Now we were comparing it to Bajaj. Now let's do the same analysis for Bajaj Holding. Now you tell me if the ROCE of Bajaj Holding is what? It's 11.6. So therefore, this is what ratios and understanding ratios can help you uncover that if you understand that a company's growth rate has been very high, it is growing profitably and it has a consistent history of growth with very high ROCE. It means that it is a very effective company. It definitely deserves a high ROCE. Now its competitor Bajaj does not have the same ROCE. That is the problem. And that is the reason why HDFC-AMC commands a very high PE ratio. So you must know at least this level of understanding before you start directly investing in stocks. So the first point was a little longer because I was teaching you the fundamental analysis of the business. The second point that you need to note down is that how do we understand the stock market? There are certain points that you must understand. And there are a few things that I have observed people getting wrong about stock market. First and foremost, they assume that the stocks move in a straight line. If they are buying a stock next day, it should go like this. If they are selling a stock next day, it should go like this. It should just fall down. It doesn't work that way. Pick any stock and it will have a consistent up and down trajectory. Right? Stocks will move like this. Right? So please keep this in mind. This is the first key misnomer that people have about investing in stock markets. The second key point that the price of a stock, right? For example, HDFC-AMC is trading at 2864. Right? The price of the stock is determined by what? The price of the stock is determined by the intersection of demand and supply curve. Right? If there are more buyers than sellers for this stock, the stock price will go up. If the supply is more than the demand, then the stock price will go down. Right? This is a very important concept and this needs to be seen in conjunction. This has got nothing, absolutely nothing with the intrinsic value of the stock. Right? I can't stress on this point enough. For example, many a times you might have seen that ITC or any other company would have posted great results, but the stock price actually came down. Why? Because of this fact. Right? Similarly, a lot of companies post horrible results, but their stock price go up. Now, the latest example here is Zomato. So when I made the IPO of Zomato analysis, in fact, I said it on the Zomato analysis also, and you can check it towards the end of the video. I categorically said it that there might be listing gains. Right? That is extremely short term. But people kept on commenting that, hey Akshat, you got your IPO analysis wrong about Zomato. No, I was doing a business and fundamental analysis of the business. A few days after I had posted that video, Professor Ashwat Damodaran wrote a blog around the IPO of Zomato. Right? This is the link. You can actually go and check this entire article. He categorically pointed out on this blog that the intrinsic value of Zomato stock is 41 rupees. It got listed at approximately 70 rupees. Now it's trading at 140 rupees. See, what is happening here is that this is short term. Right? This is extremely short term. It is extremely volatile. Even when the bad news of Yes Bank came into the picture, the stock fell like this. Then it jumped. Right? People made like 100% return. Then it fell back. So on and so forth. So there is a lot of fluctuation that goes on in any stock. But if you talk to any person who understands finance, for example, Professor Ashwat Damodaran is considered one of the principal authorities on valuation. He has written books on valuation. Wall Street companies go to him to take advice on how to value companies. If he is saying that the valuation of Zomato is 41 rupees per share, I am going to believe it 100%. And that is precisely the reason why Rakesh Jhunjhunwala also came out with a disclaimer that, hey, I'm not investing one rupee in this company unless I see profits. Now, this does not mean that I'm fundamentally against Zomato or any other company. But you need to understand a more in-depth point here. The in-depth point is very simple that the price of a stock is determined by demand and supply equation. Right? Now demand and supply can be manipulated by news. Right? It can go up. It can go down. Problem that happens is that retail investors lose money because a lot of people will get stuck with Zomato or any other company. And if the business does not pick up, then you are stuck at 140 rupees of whichever price it hits. Right? That's the problem. And then you will never get an opportunity to get out of that stock. So this is the principal problem that you assume that just because the price is hitting 140, Zomato has an intrinsic value worth X billion dollars. Right? That is not correct. Please do not assume it. So please develop your skills to understand the intrinsic value of the stock because whether the stock goes down, whether the stock goes up, you will at least not do panic selling in that stage. There are enough stocks from which I have made 100% return. Right? So it's not as if that I'm regretting not investing in Zomato's IPO. First and foremost, if you are investing in IPOs, you hardly get allotments. And even if you somehow magically do, the allotment amount is very less. It hardly makes any difference. But important point to note is that you must develop your skills to understand what the intrinsic value of stocks are. So I will highly encourage you to read this entire article, which is written by Professor Ashwat Damodran. He has explained categorically how companies are valued. This will be an excellent case study for you to absorb and understand how to do intrinsic valuations of different companies. Now, you might say that Akshat, you know what? What's a guarantee that you're right about Zomato? No guarantee. Right? But we can all learn from history and previous data. For example, you might have heard of 1990s dot-com bubble. At that stage, companies were raising millions, raising millions without even a pitch deck. Right? If you're a tech company, if you're a tech founder and you were talking tech, tech, tech, you were raising millions of dollars. But eventually what happened? At some stage, this bubble burst. Same goes for financial crisis of 2008. It's not as if that people were not able to avail loans. They were availing loans. This bubble kept on going up and it eventually popped at certain stage. So please do not assume that investing in housing was great by the time 2007-2008 hit because the housing prices were soaring. Yes, they were soaring for a little bit of time and then the bubble burst. So please keep all these specific points in mind before you start making massive investments. Understand and fundamentally evaluate what the intrinsic value of a particular stock, particular industry is. If you have no clue, then please adopt simple strategies that I've outlined on some of my other videos. So moving on to point three. Many people ask that, hey Akshat, in what sequence we should learn about stock market? Should we do FNO first? Should we do intraday trading first? Should we do swing trading? Or should we just do long term investing? Okay. So first and foremost, if you're a complete beginner, number one goal should be that you must understand how to compute the intrinsic value of industries and stocks. Okay. That's one. If you don't understand it, play the mutual fund game or small case game till then. Right. That's one. Very important. If that is also complicated, please invest your money in passive mutual funds. For example, Nifty 50 or Sensex. You cannot go wrong because you're betting on the economy in that respect and you will not lose money. I've said this statement in the past that you will start making money in the stock market. That is not a problem. You just have to stay long enough in the stock market and not get burned in the initial days. If you're just starting out learning about stock market and if you start taking FNO trades, it's bad, right? You can get badly burned and you will never come back to the stock market. So here is the sequence that you should follow. First and foremost, keep learning about calculating the intrinsic value of different stocks. Once you feel comfortable, then only jump in the stock market in terms of direct equity buying. Number two, if you have to start investing, then start with mutual funds, start with SIPs, start with small cases. Those are much simpler to understand. So start making investments there and start aggregating your knowledge here, right? In terms of computing the intrinsic values. Once you have that little bit of experience in buying direct equities, after you have understood how intrinsic values are calculated, you move on to doing different trading. You start learning more about technical indicators. You start learning more about technical indicators. Then you move on to FNO and more complicated games from there. Point four, and the final part of this video is that where should you get started? Should you start by reading books? Should you start by watching YouTube videos? It does not matter, right? What I would recommend is read a book called A Psychology of Money that will help you understand more about money in general, right? Not just stock markets because stock market is a combination of psychology, history, business valuation, trading patterns, whatnot. So it's a very complex animal complex beast, right? So don't jump into and read a book on stock market investing, right? Read the book Intelligent Investor. It's a wonderful book to read. It's slightly complex, but you will understand some of the key concepts. Watch videos of people who talk about fundamentals. I try to put out a lot of fundamental videos. I teach about ratios, analysis, etc. Watch those videos. It might become simpler for you to understand. And then finally, you can handpick certain books to develop what? To develop the understanding of computing intrinsic value of stocks. Once you get to that stage, you are comfortable. You can start learning more about stock markets. It does not matter which resource you want to follow. So as a homework, once you have read Professor Ashwat Damodaran's blog, do try to compute the intrinsic value of this YouTube channel, right? Do try to compute the intrinsic value of this YouTube channel. There is a site called as Social Blade. You can get a lot of data from it about this particular YouTube channel. Go figure it out and try to compute the intrinsic value and let me know in the comments. So I hope you enjoyed the video and I will see you the next time.