Understanding Stocks

IT’S REALLY FUNDAMENTAL: INTRODUCTION TO FUNDAMENTAL ANALYSIS 91
debt, you might look at recession-proof industries like food, oil, and
retail. Once the country is out of the doldrums and jobs are plentiful, you
take a look at industries like technology that could take the market higher.
Peter Lynch, a successful fund manager of the 1980s and 1990s,
got many of his stock ideas by watching where his children shopped at
the mall. If you go to the mall and The Gap, Starbucks, Hott Topic, or
Victoria’s Secret is filled with shoppers, this is a clue that these stores
are making money. This doesn’t mean that you should run out and buy
stock in one of these companies—first you should use fundamental
analysis to find out everything you can about the company. You should
also take the time to read the annual report, call investor relations for an
investment packet, and log on to the company Web site. You don’t want
to invest a lot of money in a stock without finding out everything you
can about the company’s business. Ideally, the business will be simple
and understandable with good long-term prospects for the future.
Identify the Leading Company
Once you have identified the industry you want to invest in, you want
to choose companies that are stronger and more profitable than their
competition. Let’s say you want to invest in the retail sector because
you believe (after careful research) that people will flock to discount
stores that can save them money. What stores come to mind? Wal-
Mart? Home Depot? Walgreen’s? Exactly. Choose the stores that have
name brand recognition and that advertise heavily. These companies
are called industry leaders. If people are buying the company’s products,
the company’s earnings will go up, which should cause the stock
price to rise. To find industry leaders, you want to look for companies
that have superior sales and earnings with little or no debt.
The financial newspaper Investor’s Business Daily rates the relative
strength of stocks in leading industries, giving them a score between 1
and 99. A relative strength rating higher than 90 is considered excellent.
You can also find information about industry leaders in the Value Line
Investment Survey, which can be found at the public library. (The Value
Line Investment Survey has loads of information about individual stocks
condensed on one page. Nearly all of the fundamental information you
need to know about a stock can be found in this periodical.)