We always hear that choose fundamentally good stocks , but most of you may not know how to choose fundamentally good stocks, So today will teach you about important ratios every investor should know. But keep in mind that you need to compare these ratios within same industry make apple -to apple comparison only.
For Example if you consider Bank/Financial stocks Debt to Equity ratio will be high, but in general if you consider FMCG business Debt to Equity should be less than 1. So always compare the companies with in industry to choose fundamentally good stocks.
Current Ratio will tell about present liquidity ratio of company. A current ratio that is lower than the industry average may indicate a higher risk, if a company has a very high current ratio compared with its peer group, it indicates that management may not be using its assets efficiently.
Price to Earning:
Price to Earning ratio will tell us about current valuation of company.A high P/E ratio could mean that a company's stock is overvalued, or else that investors are expecting high growth rates in the future. New age companies like Zomato which are not generating profits will be having negative P/E, In those cases we have to consider Price to Book ratio.
Debt to Equity:
Debt to Equity ratio will tell about financial liabilities compare to share holders equity, high D/E means high risk, Where as above we discussed that for Financial/Banking sectors Debt to Equity ratio will be high.
Return on Equity:
Return on Equity will tell about how efficiently it is generating profits, it will help you to identify future growth of the company. Always consider the stocks which are having high ROE.
Return on Assets:
Return on Assets (ROA) can be used to determine whether a company uses its assets efficiently to generate a profit. Higher ROA means a company is more efficient and productive at managing its balance sheet to generate profits while a lower ROA indicates not performant. I t's always best to compare the ROA of companies within the same industry.
Return on Invested Capital:
The return on invested capital can be used as a benchmark to calculate the value of other companies.It should be compared to a company's cost of capital to determine whether the company is creating value. It is always best to compare ROIC within the same industry because some industries required more investments where as some new aged industries like Internet based industries may not need more investments.
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