HOW TO PREDICT IF A STOCK

WILL GO UP OR DOWN
[BEGINNERS GUIDE]
  MANI
 13-06-2021
 14 min read
 25 Comments
Ask common men, they will say that – stock’s price go down more than it
goes up. 🙂 Why we think like this? Because we don’t know how to
predict if a stock will go up or down.

This is not only our problem, even experts of stock market face a similar
dilemma. Read: Why does stock price fluctuate?

In short term (span of 2-3 months), stock price movement is mostly

speculative. If there are more buyers, price goes up. If there are more
sellers, price falls.

What triggers buying or selling? Quarterly or annual reports publication

by the company. If results are positive, stock’s price will go up. If results
are negative, it might trigger a fall.

But in real world, factors effecting share price is more complex. It not
only depends on the fundamentals of the company it represents, but also
on hosts of other factors. It is a complex puzzle, and for common men
like us, it is a hard nut to crack.

Topics
o #1. Influence of FPI/FII and DII.
o #2. Influence of company’s fundamentals.
o #2.1 About fundamental analysis.
o #2.2 Correlation between reports, fundamentals & fair price.
o #2.3 Two methods to predict stock price.
 o #2.4 Future PE-EPS method.
o #1 Step: Estimate future PE.
o #2 Step: Estimate future EPS.
o #3 Step: Predict future Price.
o Conclusion.

#1. Influence of FPI, FII & DII

on Stock Price (Index)

Sorry for the jargon, but these are type of investors who invest in Indian
Financial System. FPI: Foreign Portfolio Investors. FII: Foreign
Institutional Investors. DII: Domestic Institutional Investors. Apart from
the above three types of investors, there are another investors who are
classified as Retail Investors. “We” are retail investors.

Stock market investments are dominated by three players, FPI, FII and
DII. If they are buying in stock market, the index will move up. If they are
selling, index will fall. [P.Note: The effect of FPI/FII is more dominant on
stock market index than any other type of investors.]

Compared to FII/FPI/DII, the volume of stock trading (in terms of

numbers or values) done by retail investors is negligible. Hence most of
the time, impact of retail investors on stock market is irrelevant.

But on contrary, FPI’s and FII are the stock market’s movers and
shakers. Let me show you a graphical representation of how how Index
moves with respect to FPI/FI investment.

FPI/FII Net Investment (buy vs sell trades) and

Nifty50 Index

Click to enlarge
In the above chart you can see that between 24th-Feb’20 and 03rd-
Apr’20, FPI/FII investment has gone in negative (below the zero line). It
means, FPI/FII’s are selling their holdings more than they are buying.
Hence it is causing the Nifty50 index to fall.

Nifty50 fell from 11,829 levels to 8,084 levels in this period (a falls of -
31%).
You can note that Nifty50 index is almost imitating the buy-sell
trend of FPI/FII’s. Tracking net investment of FPI/FII happening in
NSE/BSE can help us predict if a stock will go up or down.
From where to get the value of FPI/FII investment? It is published
on NSE’s website on daily basis.

#2. Influence of Company’s

Fundamentals on Stock’s
Price (Index)

We cannot simply buy any stock based on FPI/FII/DII data alone, why?
Because we will eventually end up making losses, or only mediocre
gains. Why? Because we need to do something more.

We must always remember that stock is a ‘speculative asset’. What is a

speculative asset? It an asset type whose market price has a tendency
to become overpriced. Price of “overpriced” stocks has a tendency to go
down – no matter what.

How we can say if an asset is overpriced? Asset is said to be overpriced

when its current price is higher than its “fair price‘. This is where the
need of stock analysis comes into play.

Fundamental analysis of stocks, along with FPI/FII/DII data, can

give a fair idea about a stock’s future price trend – whether it will
go up or down.

2.1 About Fundamental Analysis

Why to do fundamental analysis? This way we can ‘estimate fair price‘ of

stocks. Once fair price of a stock is known, it can be compared with its
market price to understand if the stock is ‘overpriced‘ or not.

But there is a problem. The problem lies in estimating fair price of stock.
What is the problem?

To estimate fair price of stocks, one must know how to read and
comprehend ‘financial statements’ (like balance sheet, P&L a/c, & cash
flow statement). How to read it? This is what we will see in this article
Idea is to “understand the correlation between the company’s
financial results, it’s fundamentals, and it’s fair price (also
called intrinsic value).”
Knowledge of fair price gives an idea about how to predict if a stock will
go up or down. Undervaluation will pull price up, overvaluation will bring
the prices down (see this flow chart)

2.2 Correlation Between Financial Reports,

Business Fundamentals & Fair Price

This is the crux of fundamental analysis of stocks. If we can learn to

establish a correlation between financial statements, its business
fundamentals, and its fair price – it all about it.
How this can be done? It can be done by the three step process shown
in the above flow chart. The end goal of these three steps is to identify a
fair price. Allow me to explain each of the three steps in only few words:

1. Financial Statements: Learning how to read financial statements

is key. When I say reading, I also mean understanding. One must
not only read the financial reports, but after reading, should be able
to frame a bigger picture about the company. Why bigger picture?
Because it helps in comprehending its business fundamentals.
Read more about reading a balance sheet.
2. Business Fundamentals: What factors dictate business
fundamentals of a company? Future growth prospects,
management’s efficiency, profitability, current financial health etc.
While reading a financial report, one must also simultaneously
comprehend the fundamentals. Read more about fundamentally
strong stocks.
3. Mathematical Model: In the above two steps what we have done
is mostly “study” of the company. In this step we will convert the
our study into a hard fact number. In value investing this number is
called fair price or intrinsic value. But how to convert the numbers
into fair price? To do this one must also master a mathematical
model (like discounted cash flow model).
Why we are doing so much work? We want to know if, from the current
price levels, a stock will go up or down. The best indicator of this is
stock’s fair price. When fair price of a stock is below its current price, the
stock has good possibility to go up in times to come.

How soon it will go up? It depends on the degree of undervaluation. As a

rule of thumb, a popular stock which is trading at a discount to its fair
price (say at 2/3rd levels), can go up within next few months.

If one does not want to go into the complexity of fair price calculations,
using mathematical models, then I’ll suggest an easier alternative in this
article. I call it Future PE-EPS method (check here). Though it is a
crude method of gauging stock’s future price trend, but it works for
beginners.
2.3 Two Methods to Predict Stock Price
There are two ways one can predict stock price. One is by evaluation of
the stock’s intrinsic value. Second is by trying to guess stock’s future PE
and EPS.

Method #1: Intrinsic value estimation of a stock is a skill. Only people

like Warren Buffett, and Peter Lynch can say for sure that their estimated
intrinsic value is accurate. Balance all of us can only make a random
guess. I’ve developed an MS EXCEL based tool which can estimate
intrinsic value of stocks. Check the below infographics to know how it
works.
Method #2: This is a second method which a beginner can use to
predict if a stock will go up or down. This is a crude way to guessing a
stock price. But the logic’s that will be used to implement the process is
sound. I’ve personally used it to guess price trends during my earlier
days. I’ll share the procedure in detail for only academic knowledge of
my readers.

2.4 Future PE-EPS Method

This method of predicting future price of a stock is based on a basic
formula. The formula is shown above (P/E x EPS = Price).

According to this formula, if we can accurately predict a stock’s future

P/E and EPS, we will know its accurate future price.

We use this formula day-in day-out to compute financial ratios of stocks.

But instead of future price, we use it for current price. Here the P/E and
EPS data that we use is based on trailing four quarters.

We will use the same formula and try to predict future price. How to do
it? Please check the 3 step process shown below. We can also use this
method to crudely quantify if the current stock is undervalued or
not (check the conclusion).

But before that, let’s know how to predict future price of stocks.

Step #1
Estimate P/E of Future (P/E after 3 years from today)

o #1A. Historical Price: First note down monthly price of stock

posted in last 3 years. You can get the price history from investing
dot com. This website allows you to download the historical price in
csv format. You can follow this path: Go to your Stock Page >
Historical Data > Time Frame (monthly). Download the last 3 years
price (36 months) for your stock. Check this video guide where
price downloading is shown.
o #1B. Quarterly EPS (EPS Q): After price, we will need the stock’s
historical EPS data. This data we can get from the stock’s page in
moneycontrol. You can follow this path: Go to your Stock Page >
Financial > Quarterly Results. Note down the quarterly EPS for last
3 years (12 quarters). Read about high EPS companies.
o #1C. Calculate Last 4 quarter EPS (EPS-4Q): Calculation of last
4 quarter EPS is easy. First prepare a table of all 12 quarter EPS
you have collected from moneycontrol. To calculate last 4 quarter
EPS, just add the EPS of last 4 quarters. Please see the below
table prepared for an example stock.
o #1D Calculate Last 3Y P/E: From the above prepared table, P/E
calculation of stock in each of the last 3 years is easy. PE can be
calculated by dividing Price (P) by last 4 quarter EPS (EPS-4Q).
The same is represented in the calculation table shown below:
o #1E Estimate P/E of Future: Before estimation we will make an
assumption that the stock is going to at least replicate in past 3
years performance (if not improve it). What we will do? We will
calculate the Average P/E of last 3 years. Now we will assume that
the stock will have this P/E after 3 years from today (calculated
value is 21.25). Our assumption: After 3 years from today, the
stock will have a PE of 21.25. Read more about P/E ratio.
 Step #2
Estimate EPS of Future (EPS after 3 years from today)

o #2A EPS Growth Rate: In this step we will estimate the growth
rate at which the EPS of our stock will grow in next 3 years. How to
do it? We will have to fetch some data from moneycontrol. After the
data is fetched, we must calculate the growth rates of the fetch
data. Based on this calculation will be estimate future growth rate
of EPS. See the sample calculation shown below. Here the
estimated EPS growth rate is 1.72% p.a.
o #2B Estimate EPS of Future: We have two numbers to this
estimation. We know last 4 quarter EPS. We have also estimated
the EPS growth rate for the next 3 years time horizon. We will use
these two numbers to estimate EPS of the stock after 3 years from
today. Check the formula used for future EPS calculation.
Read about profitable stocks.
 Step #3
Predict Future Price of Stock

We will use the PE-EPS formula to predict future price of stock. What we
have done in step #1 and Step #2 above is estimation of
Future P/E (21.25) and Future EPS (93.28). With two numbers in hand,
we are now ready to apply them to our formula.

What we can conclude from the above numbers?

1. What will be the future price? Expected future price (after 3

years) of our example stock is Rs.1,982.2 We have arrived this by
using the P/E formula (PE x EPS = Price).
2. What is the current price? The current price of the stock is
Rs.1,737.8 (see snapshots used in PE calculation above).
 3. At what rate the price will grow? Current price of stock is
Rs.1,737.8. Expected future price is Rs.1,982.3 (after 3 years from
today). It means, the stock is expected to grow at a rate
of 4.48% per annum. Use this formula for growth rate calculation:
[(future price/current price)^(1/ years) – 1].

Conclusion
Access the price data, and financial report of you stock as suggested in
the above article. You can use these numbers to predict what will be the
future price of stock – after 3 years from today (Check the 3 steps).

One can also use these numbers to interpret if the current price of your
stock is undervalued or overvalued. This understanding can also give a
hint that if at current price levels, the stock shall be purchased or not.
How to make this decision? Read about companies with high moat.

Suppose your expected ROI is 12% p.a. from a stock. Hence you did its
price trend analysis as shown above. You found out that the analyzed
stock can yield a return of 4.48% p.a. in next 3 years. As the stock’s
yield is below your expectation, hence for you, this stock is overvalued.