Can financial ratios help to forecast stock prices?

Abstract

Technical and fundamental analyses are the two investment making decisions widely spread all around the world. The financial crisis of 2008-2009 had a negative impact on the decisions of the Lithuanian investors to choose stock as the best investment option. However, national economics is cyclical and after recession recovery follows. Production volumes are anticipated to increase seeing that analysts forecast further GDP growth. Due to this reason, additional funding for the successful performance of enterprises will be required. Therefore, financial resources must be attracted by issuing new volumes of stocks. On the other hand, the successful performance of an issuer has a positive influence on the stock price in the market which is the subject of forecast made by the investors of Lithuania. Positive changes of stock prices in the market are partially influenced by the expectations of investors that stock prices will grow rapidly in the future. However, this feature is not known and can only be forecasted using different econometric models. At the theoretical level scientists disagree about the effectiveness of the methods used by the Lithuanian investors. Recently technical and fundamental analyses became popular among investors, though there is not much research done in order to test the effectiveness of the applicability of these methods in the Lithuanian stock market. With reference to the above mentioned information, this research is aimed to determine whether it is possible to forecast stock prices by estimating the financial ratios of a particular company. Due to this reason, a link between the return of a stock price and the financial ratios of the selected companies will be evaluated using correlation and covariance as the main analytical tools. Appropriate conclusions and suggestions are provided after obtaining reliable empirical results.