Fundamental Information Analysis

TLDR

Fundamental analysis aims to determine the value of corporate securities by examining key value drivers such as earnings, risk, growth, and competitive position. The study identifies a set of financial variables claimed useful for security valuation and examines their incremental value‑relevance over earnings, while also exploring earnings persistence, growth, and the earnings response coefficient. The authors estimate the incremental value‑relevance of these identified fundamentals relative to earnings by assessing how much they add to the explanatory power of earnings for excess returns. They find that most fundamentals add about 70 % on average to earnings’ explanatory power for excess returns in the 1980s, and that conditioning on macroeconomic variables strengthens the returns‑fundamentals relationship, revealing that some fundamentals become strongly associated with returns under specific economic conditions such as high inflation.

Abstract

Fundamental analysis is aimed at determining the value of corporate securities by a careful examination of key value-drivers, such as earnings, risk, growth, and competitive position. In the context of such analysis, we identify below a set of financial variables (fundamentals) claimed by analysts to be useful in security valuation and examine these claims by estimating the incremental value-relevance of these variables over earnings. Our findings support the incremental value-relevance of most of the identified fundamentals; in fact, for the 1980s, the fundamentals add approximately 70%, on average, to the explanatory power of earnings with respect to excess returns. We also show that the returns-fundamentals relation is considerably strengthened when it is conditioned on macroeconomic variables, thereby demonstrating the importance of a contextual capital market analysis. For example, several fundamentals that appear only weakly value-relevant or even irrelevant in the unconditional analysis exhibit strong association with returns under specific economic conditions (e.g., the accounts receivable and the provision for doubtful receivables signals during high inflation). From a general examination of the role of fundamentals in security valuation we turn to the related issues of earnings persistence, growth, and the earnings response coefficient. We hypothesize that the funda-