The document discusses financial analysis and its purposes. It defines financial analysis as providing inputs to portfolio management by determining security characteristics and identifying mispriced securities. It describes the Association of Investment Management and Research (AIMR) as a professional organization that advocates for financial analysts and publishes the Financial Analysts Journal. Financial analysis uses fundamental analysis techniques like valuation ratios and earnings estimates to identify underpriced stocks. It also discusses technical analysis strategies like momentum investing and moving average analysis to forecast stock price movements based on historical trends.

1. CHAPTER
TWENTY-TWO
FINANCIAL
ANALYSIS

2. FINANCIAL ANALYSIS
 WHAT IS FINANCIAL ANALYSIS?
• DEFINITION: the activity of providing
inputs to the portfolio management
process

3. FINANCIAL ANALYSIS
 PROFESSIONAL FINANCIAL ANALYSIS
ORGANIZATIONS
• THE ASSOCIATION OF INVESTMENT
MANAGEMENT AND RESEARCH (AIMR)
acts as an advocate for the financial analyst
profession
it host conferencing and workshops
– designed to enhance the knowledge base of the
memberships
it also publishes the Financial Analysts Journal

4. FINANCIAL ANALYSIS
 PROFESSIONAL FINANCIAL ANALYSIS
ORGANIZATIONS
• THE ASSOCIATION OF INVESTMENT
MANAGEMENT AND RESEARCH (AIMR)
Chartered Financial Analysts
– a subdivision of AIMR
– is a program to establish a hurdle that creates a
common set of investment knowledge for a select
membership
– it also promotes an ethical standard for the various
types of investment professionals

5. FINANCIAL ANALYSIS
 REASONS FOR FINANCIAL ANALYSIS
• TWO PRIMARY REASONS
to determine certain securities characteristics
to attempt to identify mispriced securities

6. FINANCIAL ANALYSIS
 REASON #1: DETERMNING SECURITY
CHARACTERISTICS
• estimate future sensitivity to major factors
• estimate dividend yield

7. FINANCIAL ANALYSIS
 REASON #2: ATTEMPTING TO
IDENTIFY MISPRICED SECURITIES
• use fundamental analysis
• approaches
valuation determines the intrinsic value
compared to the current market value
estimate key financial variables such as
– EPS next year
– income growth next year

8. TECHNICAL ANAYSIS
 DEFINITION: a form of security
analysis that attempts to forecast price
changes based on historical price and
volume trends

9. TECHNICAL ANAYSIS
 Two Groups of Strategies Used:
1. Momentum and Contrarian Strategies
2. Moving Average and Trading Range Breakout
Strategies

10. TECHNICAL ANAYSIS
1. Momentum and Contrarian Strategies
• METHDOLOGY:
examine the returns over a time period just
ended to identify
– momentum investors who seek out stocks recently
rising in price for purchase; falling for sale
– contrarians who follow the opposite strategy of most
investors
• contrarians base their strategy on the
overreation theory

11. TECHNICAL ANAYSIS
2. Moving Average and Trading Range
Breakout Strategies
• MOVING AVERAGE STRATEGY:
calculate a moving average over the last 200
days of closing prices
divdied today’s closing price into the moving
average (SHORT-TO-LONG RATIO)
if short-to-long ratio is greater than 1, buy
if ratio is less than 1, sell

12. TECHNICAL ANAYSIS
 2. Moving Average and Trading Range
Breakout Strategies
• TRADING RANGE BREAKOUT STRATEGY:
high and low prices for past 200 trading days
are identified
if today’s close is greater than the high = buy!
if today’s close is less than the low = sell!

13. FUNDAMENTAL ANALYSIS
 TOP-DOWN V. BOTTOM UP
• TOP-DOWN APPROACH
attempts to forecast in the following order
1. economic activity
2. industry performance
3. firm’s performance

14. FUNDAMENTAL ANALYSIS
 TOP-DOWN V. BOTTOM UP
• BOTTOM-UP APPROACH:
attempts to estimate prospects in the
following order:
1. The firm
2. The Industry
3. The economy

15. FUNDAMENTAL ANALYSIS
 FINANCIAL STATMENT ANALYSIS
• INTEGRAL PART OF FUNDAMENTAL
ANALYSIS
it helps the analyst understand a firm’s current
condition
where it is headed
what factors affect it
how the factors affect it

16. FUNDAMENTAL ANALYSIS
 FINANCIAL STATMENT ANALYSIS
• Review of Accounting Statements
includes a study of the three major statements
prepared monthly by most accountants:
– the balance sheet
– the income statement
– the statment of cash flows

17. FUNDAMENTAL ANALYSIS
 FINANCIAL STATMENT ANALYSIS
• RATIO ANALYSIS
DEFINITION: a technique used to examine a
company’s financial statements
Use of Ratios
– as an absolute standard
– as a comparative indicator
– as a trend over time
– in combination with technical analysis

18. FUNDAMENTAL ANALYSIS
 FINANCIAL STATMENT ANALYSIS
• RATIO ANALYSIS
Types of Ratios
– internal liquidity
– operating performance
– risk analysis
– growth analysis

19. FUNDAMENTAL ANALYSIS
 internal liquidity ratios:
• indicate the ability of the firm to meet
future short-term financial obligations
• some liquidity ratios:
current ratio
quick ratio
cash ratio
receivables turnover

20. FUNDAMENTAL ANALYSIS
 operating performance ratios:
• indicate how well the management is
operating the business
• some examples:
total asset turnover
net fixed asset turnover
equity turnover

21. FUNDAMENTAL ANALYSIS
 risk analysis ratios:
• indicates the uncertainty of income flows
for the total firm and for the individual
sources of capital (debt and stock)
• some examples:
debt to equity ratio
long-term debt/total capital ratio

22. FUNDAMENTAL ANALYSIS
 growth analysis ratios:
• indicate how fast a firm should grow
• it involves analysis using several other
ratios
net profit margin
total asset turnover
total assets/equity

23. END OF CHAPTER 22