2. Home
  4. Docs
  6. Research
  8. Fundamental

Fundamental

Current Ratio

Supporting:

  • Analysis of Fundamental Factors on Stock Price by Rista Bintara, Sely Megawati Wahyudi, Molina (2019): This study examines the influence of various fundamental financial ratios on the stock prices of banking companies listed on the Indonesia Stock Exchange (IDX). One of the key ratios analyzed is the Current Ratio (CR), which measures a company’s ability to meet its short-term liabilities with its short-term assets. The findings indicate that the Current Ratio has a positive impact on stock prices, suggesting that investors value companies with strong liquidity as it reflects financial stability and lower risk. The study underscores the importance of the Current Ratio in assessing a company’s financial health and its potential influence on stock market performance.

Criticizing:

  • “The Current Ratio in Current Position Analysis” by Journal of Financial and Quantitative Analysis (1963): This paper critically evaluates the effectiveness of the current ratio as a measure of a company’s liquidity. It highlights that while the current ratio is widely used in financial analysis, it has significant limitations, especially when used in isolation. The study points out that the current ratio can be misleading in certain scenarios, such as when companies hold large inventories that may not be easily liquidated. The paper suggests that relying solely on the current ratio without considering other liquidity measures, like the quick ratio, can lead to inaccurate assessments of a company’s financial health.

Debt / Equity (D/E)

Supporting:

  • Capital Structure and Firm Performance: A New Approach to Testing Agency Theory and an Application to the Banking Industry by Dimitris Margaritis, Maria Psillaki (2010): This paper explores the relationship between capital structure—specifically, the debt-to-equity ratio—and firm performance across various industries, with a focus on the banking sector. The study tests agency cost theory, which posits that an optimal level of debt can help align the interests of managers and shareholders, thereby enhancing firm performance. The findings suggest that higher leverage can have both positive and negative impacts depending on the characteristics of the industry. In the banking sector, where capital structure plays a critical role in risk management and regulatory compliance, the study reveals that there is a delicate balance between the benefits and costs of debt, emphasizing the need for careful capital structure management to optimize performance.

Criticizing:

  • Capital Structure and Firm Performance: A Comparative Study of Oil & Gas and Manufacturing Sectors in the United States of America by Adepoju Adeoba Asaolu (2021): This paper investigates the impact of capital structure on the performance of firms in the Oil & Gas and Manufacturing sectors in the United States. Using data from the New York Stock Exchange (NYSE) and NASDAQ over a 10-year period (2010-2019), the study employs panel least square estimation techniques to analyze the relationship between debt structure and firm performance. The findings indicate that while leveraging (debt structure) can enhance firm performance, excessive leverage tends to have a negative effect. Key factors such as asset tangibility, interest payments, dividend growth, directors’ shares/inside ownership, and non-debt tax shields are highlighted as significant variables that influence firm performance across both sectors. The study recommends that firms carefully consider the costs and benefits associated with debt financing to optimize performance.

Profit Margin

Supporting:

  • An Empirical Study on the Correlation between Stock Prices and Financial Indexes Based on Regression Analysis—Take the Education Industry as an Example by Jing Chen, Chenxi Tian, Xuan Gou (2023): This paper investigates the correlation between stock prices and various financial indexes within the education industry. Focusing on the profit margin, the study finds that it plays a crucial role in predicting stock prices. Profit margin, defined as the ratio of net profit to sales revenue, directly reflects the company’s ability to generate profit from its sales. The research shows a positive correlation between profit margin and stock price changes, indicating that companies with higher profit margins tend to have higher stock prices. This finding underscores the importance of profit margins as a key indicator of financial health and a predictor of stock market performance.

Criticizing:

  • The Relationship between Earnings-to-Price, Current Ratio, Profit Margin and Return: An Empirical Analysis on Istanbul Stock Exchange by Hakkı Öztürk, Tolun A. Karabulut (2018): This paper investigates the relationship between various financial ratios, such as profit margin, earnings-to-price, and current ratio, and their impact on stock returns in the Istanbul Stock Exchange. The study finds that, although profit margins are often seen as indicators of a company’s profitability and potential stock performance, they do not consistently predict stock returns across different market conditions. The paper argues that relying solely on profit margins as a predictive tool may be misleading and suggests that other financial ratios, particularly the earnings-to-price ratio, could provide more reliable insights for investors.

Return on Assets (ROA)

Supporting:

  • An Empirical Study on the Correlation between Stock Prices and Financial Indexes Based on Regression Analysis—Take the Education Industry as an Example by Jing Chen, Chenxi Tian, Xuan Gou (2023): This study investigates the relationship between various financial indexes and stock prices in the education industry, including Return on Assets (ROA). The analysis reveals that ROA, which measures a company’s efficiency in generating profit from its assets, has a significant positive correlation with stock prices. Companies with higher ROA tend to have better stock price performance, indicating that efficient asset utilization is a critical factor in driving investor confidence and stock value. The findings underscore the importance of ROA as a key indicator of financial health and its role in influencing stock prices within the education sector.

Criticizing:

  • None currently available.

Return on Equity (ROE)

Supporting:

  • ROE in Banks: Performance or Risk Measure? Evidence from Financial Crises by Christophe Moussu, Arthur Petit-Romec (2017): This paper critically examines the role of Return on Equity (ROE) as a performance measure in banks, particularly in the context of financial crises. The authors argue that while ROE is widely used as a key performance indicator in the banking industry, it may incentivize excessive risk-taking, particularly when used as a target in executive compensation. By analyzing data from the 2007-2008 financial crisis and comparing it to the 1998 crisis, the study finds that higher pre-crisis ROE is strongly associated with increased bank risk during the crisis.

Criticizing:

  • Predicting Stock Return of UAE Listed Companies Using Financial Ratios by Dr. Arindam Banerjee (2019): This study explores the relationship between various financial ratios and stock returns for companies listed on the Dubai Financial Market (DFM) and Abu Dhabi Stock Exchange (ADX). Specifically, it highlights the role of Return on Equity (ROE) as a significant predictor of stock returns. The analysis demonstrates that ROE, which measures the profitability of a company relative to shareholders’ equity, has a strong negative correlation with stock returns in the context of the UAE market for the year 2017. The study suggests that while higher ROE is typically seen as a positive indicator of financial performance, in this context, it was associated with lower stock returns, emphasizing the complexity of financial ratios as predictive tools in volatile markets.

Price to Book (P/B)

Supporting:

Criticizing:

  • None currently available.

Price to Earnings (P/E)

Supporting:

  • The P/E Ratio and Stock Market Performance by Pu Shen (2001): This paper investigates the historical relationship between the Price-to-Earnings (P/E) ratio and subsequent stock market performance, focusing on the U.S. stock market. The author finds that high P/E ratios have historically been followed by disappointing stock market performance both in the short and long term. The study shows that when the P/E ratio is above its long-term average, stock prices tend to grow slowly over the next decade. Additionally, the paper discusses how the P/E ratio can influence investor behavior and market trends, emphasizing that a high P/E ratio may indicate an overvalued market, leading to slower future growth.

Criticizing:

  • The Optimal Stock Valuation Ratio by Sebastian Hillenbrand and Odhrain McCarthy (2023): This paper investigates the efficacy of various trailing price ratios, such as the Price-to-Earnings (P/E) ratio, in predicting stock market returns. The authors argue that traditional trailing price ratios, including the P/E ratio, are not optimal predictors of returns due to their inclusion of expected cash flow growth, which creates an omitted variable problem. They find that while the P/E ratio theoretically contains expected returns, its actual performance in predicting future returns is limited, particularly in out-of-sample predictions. This limitation is primarily due to structural changes in cash flow growth over time, which the P/E ratio does not adequately account for, thus diminishing its predictive power. The study suggests that scaling prices by forward-looking cash flow forecasts using machine learning provides a more accurate valuation ratio for predicting returns.

Price to Earnings Growth (P/EG)

Supporting:

  • PEG Ratios and Stock Returns by Zhao Sun (2004): This thesis examines the relationship between PEG ratios and stock returns, exploring whether the PEG ratio—defined as the price-to-earnings (P/E) ratio divided by the expected earnings growth rate—can serve as an effective indicator for predicting stock performance. The study finds that while PEG ratios do provide some explanatory power for stock returns, the relationship is not as straightforward as often assumed. Specifically, both low and high PEG ratios are associated with lower-than-average returns, contradicting the common belief that lower PEG ratios should yield higher returns. The study also highlights that the biases in analysts’ earnings forecasts contribute significantly to the pricing errors observed in stocks with extreme PEG ratios. Analysts’ overoptimism leads to larger discrepancies between expected and actual earnings, which in turn affects stock performance.

Criticizing:

  • A Study on Determinants of Short-Term Return on Stocks in the S&P 500 by Uday Kumar Jagannathan, N Suresh (2017): This study explores the predictive power of various financial ratios on short-term stock returns for companies in the S&P 500. The Price to Earnings Growth (PEG) ratio, which adjusts the P/E ratio by considering a company’s earnings growth, was examined to determine its effectiveness in forecasting stock price movements. The findings reveal that the PEG ratio has a weak correlation with short-term stock returns, with an R-squared value of only 0.00647. This suggests that while the PEG ratio incorporates growth expectations, it may not be a reliable indicator for predicting short-term stock performance. The study concludes that the PEG ratio has limited utility in short-term investment strategies within the timeframe analyzed.

Price to Free Cash Flow (P/FCF)

Supporting:

  • The Free Cash Flow Rate on the Stock Return Rate by Chih-Chang Chiu (2013): This study examines the impact of the free cash flow (FCF) rate on stock return rates and compares it to the traditional Book-to-Market (B/M) ratio in predicting stock market returns. The research introduces a five-factor model based on the Fama-French three-factor model, incorporating factors such as the free cash flow rate, corporate growth rate, corporation size, fixed asset rate, and long-term liability rate. The study uses panel regression analysis on data from 491 listed corporations in Taiwan over an 11-year period (1999-2010). The findings reveal that the free cash flow rate is the most significant factor influencing stock returns, suggesting that investors should prioritize companies with higher FCF rates to optimize portfolio performance.

Criticizing:

  • None currently available.

Price to Sales (P/S)

Supporting:

  • The Effectiveness of Fundamentally-Adjusted Price-to-Sales Multiple in Stock Valuation – The Case of Warsaw Stock Exchange by Jacek Welc (2010): This study evaluates the effectiveness of the Price-to-Sales (P/S) ratio, adjusted for fundamental factors, in predicting stock performance on the Warsaw Stock Exchange. The author argues that while traditional valuation multiples like Price-to-Earnings (P/E) are commonly used, the P/S ratio can be more effective during periods of financial downturn when earnings may be negative or unreliable. By incorporating adjustments for operating profitability, leverage, and turnover, the study demonstrates that the fundamentally-adjusted P/S ratio outperforms traditional multiples in identifying undervalued stocks. The results show that portfolios constructed using the adjusted P/S ratio yielded higher returns compared to those based on simple multiples, including P/E, on the Warsaw Stock Exchange from 1999 to 2009.

Criticizing:

  • None currently available

How can we help?