and analysis involve several steps. First, investors should have a good understanding of the market and the industry in which a firm operates. Market analysis involves determining the demand for a firm's products by using consumer demographics and trends in the firm's operating sector as well as the firm's competitive position. The purpose of market analysis is to determine the opportunities available regarding developing or improving products and services that would be accepted by a firm's customers. This analysis also provides an avenue for the firm's resource planning. Industry analysis helps investors to explore potential profit opportunities for the firm by analyzing external and internal factors. An expanding industry presents ample opportunity for a firm to improve its position. A declining or contracting industry, however, would force firms to search for opportunities elsewhere. Technological advances, innovation, and changes in regulation could make an industry attractive or unattractive. Industry analysis further helps a firm to understand its position relative to its major competitors in terms of both opportunities and threats.
Second, various ways are available to value a stock. An analyst should have a good understanding of how each valuation technique works and why it can lead to a different valuation.
Dividend discount method. Dividend discount valuation uses the present value of future dividend payments to compute a stock's fundamental value. This model requires estimating the growth patterns for dividends, cost of capital, and the last dividend paid. Some models, such as the Gordon constant growth model, assume that the historical dividend growth rate continues in the future, whereas others make different assumptions.
Free cash flow method. If a firm does not pay dividends, an alternative valuation technique, called free cash flow valuation, uses a firm's free cash flow, which is the cash flow available in a company after considering investment in fixed capital, working capital, and other expenses to keep the company going. Although positive free cash flow is desirable and an optimistic sign for a firm's financial health, negative free cash flow is not necessarily an unfavorable signal as it may indicate that a firm is making substantial investments.
Comparables method. Market-based valuation focuses on comparing similar businesses to value a firm's stock. This valuation is known as comparables or comps valuation and can be based on the type of business, transaction, or industry averages. The key element of the approach is to find a value-based characteristic relative to the value of the business.
Other valuation methods. Additional valuation techniques include residual income valuation, which focuses on excess income above the costs measured relative to the equity used, and technical analysis, which values a firm or stock using the data from trading activities, including price and volume changes.
Equity investment models and strategies also play an important role in investing activities and their success. An investor may choose active investing and try to time the market with an objective of short-term gains. A passive investor may choose to invest for the long term by tracking an index. This strategy reduces the risk through diversification. Furthermore, investors can strategically focus on certain types of stocks. For example, one may choose to invest in stocks whose earnings are expected to grow faster than others (growth strategy) or may look for undervalued stocks that are expected to increase in value (value strategy).
Equity markets also accommodate special cases of investing, including activist investing and socially responsible investing, as well as investing in emerging markets, private equity, and crowdfunding investments. For example, activist investors invest in companies to influence their activities through pressuring management with specific agenda items such as changing the compensation plans, forcing the firm to merge or divest certain assets, and changing a company's product lines. Socially responsible investing involves applying nonfinancial social screens to a universe of investment alternatives to identify investment candidates. A social screen is the expression of an investor's social, ethical, or religious concern in a form that enables an investment manager to apply it in the investment decision-making process, along with other screens.
ABOUT THIS BOOK
This section discusses the book's purpose, its distinguishing features, and its intended audience.
Purpose of the Book
The primary purpose of this book is to provide an objective look into the dynamic world of equity markets, valuation, and analysis. The coverage extends from discussing basic concepts and their application to increasingly intricate and real-world situations. This volume spans the gamut from theoretical to practical while attempting to offer a useful balance of detailed and user-friendly coverage. Discussion of relevant research permeates the books. Readers can gain an in-depth understanding about this subject from experts in the field, both academics and practitioners. Readers interested in a broad survey will benefit as will those looking for more in-depth presentations of specific areas within this field of study. In summary, this book provides a fresh look at this intriguing but often complex subject.
Distinguishing Features
Several features distinguish Equity Markets, Valuation, and Analysis from others in the market.
The book provides an introduction to this broad, complex, and competitive field. It skillfully blends the contributions of a global array of academics and practitioners into a single review of some of the most important topics in this area. The varied backgrounds of the contributors assure different perspectives and a rich interplay of ideas. The book also reflects the latest trends and research in a global context and discusses several controversial issues as well as the future outlook for this field.
While retaining the content and perspectives of the many contributors, the book follows an internally consistent approach in format and style. Similar to a choir that contains many voices, this book has many contributing authors, each with their separate voices. A goal of both a choir and this book is to have the many voices sing together harmoniously. Accomplishing this task for the book requires skilled editing by the co-editors to assure a seamless flow when moving from chapter to chapter. Hence, the book is collectively much more than a compilation of chapters from an array of different authors.
The book presents theory without unnecessary abstraction, quantitative techniques using basic mathematics, and conventions at a useful level of detail. It also incorporates how investment professionals analyze and manage equity portfolios.
The book places a strong emphasis on empirical evidence involving equity markets, valuation, and analysis. When discussing the results of various studies, the objective is to distill them to their essential content and practical implications so they are understandable to a wide array of readers.
The end of each chapter contains four to six discussion questions that help to reinforce key concepts. The end of the book provides guideline answers to each question. This feature should be especially important to faculty and students using the book in classes.
Intended Audience
Given its broad scope, this practical and comprehensive book should be of interest to various groups. The primary market consists of academics, researchers, investors, and financial professionals/practitioners. Students, policymakers, libraries, and anyone curious about equity markets, valuation, and analysis make up the secondary market. For academics and researchers, the book provides the basis for gaining a better understanding of various aspects of equity markets, valuation, and analysis and as a springboard for future research. Academics can also use the book as a stand-alone or supplementary resource for advanced undergraduate or graduate courses in investments as well as a PhD seminar, given the book's research orientation. Investors, financial professionals, and practitioners
