The Strategy of Stock Selection
- The Biscuits
- Nov 29, 2021
- 15 min read
Updated: Jul 11
The concept of earning wealth through the stock market has always captured the attention of investors—whether in 1995 or 2021. Over the years, countless individuals have sought to change their lives by leveraging the market’s potential. The appeal is undeniable: with increasing digitalization, buying and selling shares has become as simple as a click. The stock exchanges offer opportunities for phenomenal returns, making them attractive to those hoping to “buy low and sell high.”
However, this seemingly straightforward approach can quickly become a financial pitfall without the right mindset, discipline, and analytical ability. Despite its outward simplicity—green and red numbers fluctuating during market hours—the stock market demands significant patience, mental strength, and a sound understanding of financial principles to build lasting wealth.
Introducing Our Investment Model: “ATMOSPHERE”
Just as the Earth’s atmosphere protects life by filtering harmful radiation and maintaining balance, our ATMOSPHERE model acts as a filter to identify strong, stable, and high-potential companies for investment. It begins with a set of critical performance ratios, each serving as a checkpoint in our stock evaluation process.
1. PE Ratio (Price to Earnings Ratio)
Formula: PE = Price / EarningsThis ratio tells us how much we must invest to earn 1 INR (or 1 USD) in profit.
Ideal PE ≤ 22.5
Lower PE implies the stock is undervalued; higher PE suggests overvaluation.
If PE is shown as 0 or “–”, the company is currently incurring losses.
Rearranged formula to determine price: Price = Earnings × PEFor example: if earnings = ₹50, PE = 10 → Price = ₹500.If earnings rise to ₹75 (with PE constant), new Price = ₹750.
Note: While helpful, PE ratio can be misleading in isolation. A company might reinvest all profits or record unusual earnings from asset sales, distorting its valuation.
2. PEG Ratio (Price/Earnings to Growth)
Formula: PEG = PE / CAGR of Net Profit (10 years)Used only when PE > 22.5 to determine if a stock is worth buying at a premium.
Ideal PEG range: 1.2 – 1.3
Lower PEG = more favorable valuationExample:
PE = 25, CAGR = 22% → PEG = 1.14 (indicating fair value despite high PE)
3. Debt-to-Equity Ratio
Formula: Debt / Equity
Ideal D/E ≤ 0.5Indicates whether a company has the financial strength to pay off liabilities even during downturns.
A value of 0 or “–” means negligible debt—financially secure.
A high D/E reflects financial stress and increased risk of default.
4. Gross Profit Margin (GPM)
Formula: (Revenue – COGS) / Revenue × 100
Indicates the core profitability of the business.
A higher GPM = effective use of resources.
5. Operating Profit Margin (OPM)
Formula: (Gross Profit – Overheads) / Revenue × 100
Shows the company’s ability to manage overhead costs.
Negative OPM suggests high expenditure or capital reinvestment.
Note: For both margins, we focus on 10 years of consistent data, not fixed ranges. Firms maintaining or improving margins with rising revenue are seen as financially stable and competitive.
6. Interest Coverage Ratio
Formula: EBITDA / Interest
Ideal value: ≥ 7Indicates how easily a company can pay interest on its debt.
A high ratio reduces the risk of financial strain and boosts investor confidence.
7. Return on Equity (ROE)
Formula: (Net Income / Equity) × 100
Ideal ROE: ≥ 15% (10-year average)Reflects the firm’s efficiency in utilizing shareholder capital.
A high ROE suggests smart decision-making by the management.
ROE is also compared to the long-term CAGR of Nifty/Sensex (~15%).We aim to outperform the broader market.
8. Free Cash Flow (FCF)
Represents the excess cash left after accounting for all internal and external costs.
Used for expansion, dividends, or reducing debt.
Consistent and high FCF = strong business model.
10-year trend is more important than a single year’s figure.
Negative FCF for 1–2 years may indicate reinvestment and is not always alarming if other metrics are strong.
9. FCF to Sales Ratio
Formula: (Free Cash Flow / Sales) × 100
Ideal value: ≥ 20%A high ratio means the business is a “cash machine”—a very attractive trait for value investors.
This ratio is considered one of the most reliable indicators, as FCF is harder to manipulate than earnings.
Final Thoughts on ATMOSPHERE Model
This structured framework enables us to objectively evaluate companies and filter out only those with strong fundamentals, low risk, and long-term stability. It helps remove bias and emotion from investing decisions and focuses on data-driven metrics to protect and grow our wealth.
Investing is not about chasing the hottest trend or reacting emotionally to market news. It is about building a portfolio backed by companies that are profitable, efficient, stable, and growing—even when no one is watching.
Our ATMOSPHERE model helps make that possible.
To effectively evaluate an Indian business using all the components of the performance ratios outlined in the ATMOSPHERE model, you can use the following two trusted financial research platforms:
1. Screener.in
This platform is best suited for retrieving the following metrics:
PE Ratio (Price-to-Earnings Ratio)
Interest Coverage Ratio
ROE (Return on Equity)
Market Capitalization
How to use it:
Go to Screener.in
Type the name of the company in the search bar (e.g., Asian Paints, Tata Motors)
Scroll through the main dashboard to find the PE ratio, ROE, and Market Cap
Click on "Ratio" or "Financials" tabs to view Interest Coverage
2. Morningstar India
This platform is ideal for accessing:
PEG Ratio
Debt-to-Equity Ratio
Gross Profit Margin (GPM)
Operating Profit Margin (OPM)
Free Cash Flow (FCF)
Free Cash Flow to Sales Ratio
How to use it:
Go to Morningstar India
Use the search function to find the company (e.g., HDFC Bank, Infosys)
Navigate to the "Financials" or "Ratios" tab
Under profitability, you'll find GPM, OPM, and PEG
Under cash flow and balance sheet, you'll find FCF, Debt/Equity, and related metrics
Note:
These platforms are India-specific and provide authentic, up-to-date financial data—ideal for retail and institutional investors alike. By using both in combination, you can perform a complete financial health check of any listed Indian company in alignment with the ATMOSPHERE model.
Let me know if you'd like a sample analysis for any specific company using these platforms.
Next, we focus on risk assessment to evaluate both the risk involved and the potential reward of an investment using the Discounted Cash Flow (DCF) Perpetuity Model. This is a valuation method used to estimate the intrinsic value of a business based on its expected future cash flows. It is widely adopted by value investors as a tool to determine whether a company is currently undervalued or overvalued in comparison to its future earning capacity.
The model uses the company’s current Free Cash Flow (FCF) as a starting point to forecast its future performance. Through DCF analysis, we aim to calculate the present value of a company’s projected earnings over the next decade. This helps identify businesses that are trading at a discount relative to their intrinsic worth.
For example, if a company’s current share price is ₹100, and our DCF model estimates its intrinsic value at ₹900, the company is considered to be undervalued by approximately 88%, indicating a strong investment opportunity.
Key Inputs for the DCF Perpetuity Model
The model requires nine components, divided into two categories:
A. Industry-Based Inputs (5 major factors)
Industry growth rate (Years 1–5)
Industry growth rate (Years 6–10)
Terminal growth rate (used to calculate the value beyond 10 years; typically set at 4%, the global long-term growth average)
Discount rate (reflecting risk-free return; often approximated by the 10-year government bond yield, typically 6%)
Margin of safety (used to ensure conservative estimates; ideally set at 50%)
B. Company-Specific Inputs (4 remaining factors)
Free Cash Flow (FCF)
Market Capitalization
Share Price
Net Debt (Total Debt - Cash & Cash Equivalents)
How the DCF Perpetuity Model Works
Free Cash Flows are projected year by year for 10 years, applying the expected industry growth rates.
In year 10, the Terminal Value is calculated using the projected FCF, terminal growth rate, and discount rate.
The future cash flows and terminal value are discounted back to their present values using the discount rate.
The sum of these present values gives the projected market capitalization or intrinsic value of the business.
Finally, a margin of safety (50%) is applied to ensure that we are buying the asset at a substantial discount to its estimated fair value.
This method is rigorous and involves a series of detailed calculations. For practical purposes and to improve efficiency, we recommend using the following online tool, which automates the DCF calculations:
This tool allows investors to input all the relevant variables and receive a comprehensive DCF-based valuation, thereby simplifying the process and eliminating the complexity of manual spreadsheet calculations.
Using this model effectively ensures that you are not overpaying for any stock and are making informed, value-driven investment decisions.
Honesty
Furthermore, in order to ensure the integrity of financial data, we incorporate a crucial measure of transparency known as the Beneish M-Score. This metric is used to detect whether a company may have manipulated its financial statements to mislead investors. Since our investment decisions are heavily based on a company's financials, verifying the honesty and accuracy of reported data is essential.
A Beneish M-Score less than or equal to -1.85 indicates that the company has not manipulated its financial figures. This strengthens our confidence in the reliability of all previous evaluations based on the firm’s financial performance.
To check the Beneish M-Score of a company, use the following website:
External Factors
In addition to internal financial metrics, it is equally important to consider external macro and microeconomic factors that may affect a business. These include:
Political climate
Economic policies and trends
Social changes and consumer behavior
Industry-specific developments
Technological shifts
These external factors, though beyond a company’s control, can significantly influence its future performance. Staying informed about such developments ensures that our investment decisions are comprehensive and well-grounded.
To stay updated with current events and relevant information about specific companies or sectors, we recommend the following platform:
Website:https://www.tickertape.in/
Market Positioning
To further refine our selection process, we analyze a company’s market standing relative to its peers. This comparison helps determine whether the firm is a market leader, a fast-growing challenger, or lagging behind. The key factors we assess include:
Market Capitalization – to understand the overall size and value of the company.
Market Share – to evaluate its dominance within the industry.
Brand Value – to assess recognition and trust in the market.
Distribution Network – to understand the company’s reach and supply chain efficiency.
Customer Loyalty and Base – to gauge consumer retention and long-term demand.
Financial Figures – including revenue, profits, and margins for performance comparison.
Business Operations – efficiency, innovation, and quality of execution.
Management of the Board of Directors – experience, credibility, and decision-making effectiveness.
Scalability – the company's ability to grow operations, benefit from economies of scale, and implement expansion plans effectively.
A detailed analysis of these factors ensures that our selected company not only has strong financials and ethical reporting but also a sustainable competitive advantage in the industry. This multi-layered approach to investing enhances both return potential and risk mitigation.
Entity
After completing our financial and comparative analyses, we turn our attention to the firm’s entity. This stage provides a deeper understanding of the company's brand value, brand image, and unique selling proposition (USP). A clear and distinguishable USP gives a business a competitive edge, setting it apart from its peers in the industry. This differentiation plays a crucial role in attracting and retaining customers, which directly benefits shareholders by enhancing long-term profitability and stability.
A business that offers something distinct and valuable is more likely to maintain customer loyalty and defend its market position—factors that are critical when assessing a company’s potential for sustainable growth.
Socially Responsible
In addition to this, we evaluate whether the company is socially responsible and considers negative externalities (such as environmental impact, labor practices, or societal consequences) in its decision-making process. Ethical business practices not only improve a company’s reputation and brand image but also create a positive working environment. Employees are more likely to feel motivated and take pride in working for an organization that upholds strong values, which in turn enhances productivity and retention.
Being socially responsible contributes to:
An expanded and loyal customer base
Improved employee morale
Increased profitability through brand goodwill
Stronger long-term growth prospects
Annual Reports
After filtering companies through all these qualitative and quantitative criteria, we narrow our list to a small selection of high-potential stocks. At this point, we conduct a thorough reading of each company’s annual report.
Annual reports are comprehensive documents issued by companies annually, primarily for shareholders and stakeholders. These reports provide:
Detailed financial statements
Management discussion and analysis
Strategic goals and operational performance
Plans for expansion and innovation
Market positioning and competitive strategy
Vision and mission statements
Social responsibility and sustainability efforts
Reading an annual report allows us to verify the conclusions we’ve drawn from financial metrics and external evaluations, ensuring our investment decisions are based on a complete understanding of the company.
Note: All annual reports can be accessed freely on the company’s official website, usually under the "Investor Relations" or "Investors" section. Reviewing these reports is a crucial final step in confirming the company’s integrity, direction, and suitability for investment.
Objectify Our Interets
Lastly, we arrive at one of the most important yet often overlooked steps in the investment process—asking ourselves the question:“Will this stock be the best fit for our portfolio?”
This reflective step ensures that we are objectifying our personal investment goals and evaluating the stock based on our defined ideology of what constitutes a perfect investment. While a stock may successfully pass through all our rigorous filters—be it financial ratios, qualitative evaluations, or market positioning—there may still be certain elements that the filtration process has not captured.
By consciously questioning our decision even after thorough analysis, we allow ourselves to step back and assess:
Does this stock align with our risk appetite?
Is it consistent with our investment horizon and strategy (long-term or short-term)?
Are there any external or internal factors we might have overlooked?
Would this stock complement the diversification and stability of our portfolio?
This process offers a broader and more comprehensive perspective, ultimately leading to more rational and confident investment decisions.
Short-Term Stock Analysis: Fibonacci Retracement
When it comes to short-term trading, we shift our focus from fundamental analysis to technical indicators. One such widely used tool is the Fibonacci Retracement.
Fibonacci retracemen is a technical analysis method used to identify potential levels of support and resistance in a stock's price movement. These levels are derived from the Fibonacci sequence and are expressed as percentages: 23.6%, 38.2%, 50%, 61.8%, and 78.6%.
In simpler terms, it helps us understand:
When a stock is likely to reverse direction after a recent decline or rise
The safety margins for entering or exiting a position
Optimal price levels where the stock may bounce back (retracement) after a fall
This tool is particularly useful for timing short-term trades, deciding entry and exit points, and protecting profits or limiting losses. It offers a structured approach to handle market volatility by giving mathematically derived levels to watch for price reversals.
Incorporating Fibonacci retracement alongside our fundamental screening adds an additional layer of precision to our trading strategy, especially when managing short-term positions.
Together, by combining deep fundamental analysis for long-term investing with practical technical indicators for short-term trades, we build a balanced, well-informed, and strategically sound portfolio.
Fibonacci numbers, in their true essence, form a mathematical sequence in which each number is the sum of the two preceding numbers. The sequence begins with 0 and 1, and from there, it continues infinitely following the same pattern.
The first few numbers in the Fibonacci series are:
0, 1, 1, 2, 3, 5, 8, 13, 21, 34, 55, 89, 144, and so on.
This sequence is significant not only in mathematics but also in nature, architecture, art, and financial markets, particularly in technical analysis. Fibonacci numbers serve as the foundation for Fibonacci retracement levels, which traders and analysts use to predict potential reversal points in price trends. These levels are derived from the ratios between Fibonacci numbers, most notably:
23.6%
38.2%
50% (not technically a Fibonacci ratio, but widely used)
61.8%
78.6%
These percentages represent retracement levels, helping traders determine where to expect a temporary pullback or bounce in a stock’s price before the trend continues. The widespread application of Fibonacci numbers across disciplines highlights their mathematical beauty and practical utility.
We derive Fibonacci ratios by dividing selected numbers within the Fibonacci sequence. For example, if we take the number 55, and divide it by various surrounding Fibonacci numbers, we obtain the following:
21 ÷ 55 ≈ 0.382
34 ÷ 55 ≈ 0.618
89 ÷ 55 ≈ 1.618
144 ÷ 55 ≈ 2.618
These ratios are not just mathematical coincidences—they are closely tied to the golden ratio, a naturally occurring proportion observed in art, architecture, nature, and financial markets. The most commonly used Fibonacci ratios in technical analysis are:
0.236
0.382
0.618
1.618
2.618
4.236
A unique characteristic of this sequence is that any number (after the initial few terms) will be approximately:
0.618 times the number following it
1.618 times the number preceding it
This forms the mathematical foundation for the golden ratio, and its derivatives are used extensively by traders to identify potential retracement levels in the price of a stock or asset.
Fibonacci Retracement in Trading
Fibonacci retracement is a widely used technical indicator that applies these ratios to stock charts in order to determine potential support and resistance levels during a price correction.
In simple terms, retracement refers to the temporary reversal of a stock’s price movement, often pulling back to a previous price level before continuing in the original direction. Fibonacci levels help identify where the retracement is likely to end and the trend may resume.
Importance of the Morning Star Candlestick
Before applying Fibonacci retracement, it is crucial to recognize candlestick patterns that indicate a potential trend reversal. One of the most important among these is the Morning Star candlestick pattern.
A Morning Star typically consists of three candlesticks and signals a reversal from a bearish to a bullish trend:
First candlestick: A long red (bearish) candle indicating strong selling pressure.
Second candlestick: A small-bodied candle (either red or green), which shows indecision or consolidation, often appearing as a doji or spinning top.
Third candlestick: A long green (bullish) candle, indicating strong buying pressure and a potential start of an uptrend.
This pattern often occurs after a downtrend, and its appearance suggests that the momentum is shifting from sellers to buyers. When paired with Fibonacci retracement levels, it helps traders make more informed entry and exit decisions.
By combining Fibonacci ratios with candlestick analysis, especially patterns like the Morning Star, traders can identify short-term trend reversals and determine safe zones for entering or exiting positions, enhancing both timing and risk management.
In simpler terms, the Morning Star candlestick pattern marks a potential turning point in a stock’s short-term price movement, indicating a shift from a downward to an upward trend. It acts as a signal that the decline may be slowing and a small upward retracement might occur.
The opposite of the Morning Star is the Evening Star candlestick, which suggests a reversal from an uptrend to a downtrend. Just like the Morning Star, this is also a short-term signal and does not indicate a complete reversal of the overall trend. For instance, even during a larger downtrend, a Morning Star can appear, signifying a temporary recovery or retracement before the trend continues downward.
Applying Fibonacci Retracement After Identifying the Morning Star
Once a Morning Star candlestick has been identified, traders often apply the Fibonacci retracement tool to project likely resistance levels where the price might face hesitation or reversal after the initial bounce.
The method involves:
Selecting a starting point on the chart (usually the standard or recent high).
Dragging the retracement tool down to the lowest point, which is typically near the Morning Star candlestick.
The tool then automatically draws the Fibonacci retracement levels—0.236, 0.382, 0.5, 0.618, etc.
Following the appearance of a Morning Star, the stock price often retraces upward to one of these Fibonacci levels before either continuing its upward move or returning to the downtrend.
These levels help traders:
Determine potential exit points
Set target prices
Manage risk and stop-losses
To understand this application visually and step-by-step, refer to the video below:
This combination of candlestick analysis and Fibonacci retracement forms a powerful technique for short-term trading, improving accuracy in predicting price behavior within a given trend.
As previously mentioned, the Earth’s atmosphere plays a vital role in shielding the planet from harmful radiation. In a similar way, our own model—“ATMOSPHERE”, an acronym—serves as the strategic framework for filtering out unfavourable stocks and protecting our portfolio from risk-laden investments.
Each letter in ATMOSPHERE represents a key component of our evaluation process:
A – Annual Reports
T – Technical Indicator
M – Market Position
O – Objectifying Our Interests
S – Social Responsibility
P – Performance Ratios
H – Honesty
E – External Factors
R – Risk Assessment
E – Entity
Through this structured model, we aim to identify value stocks—companies that are trading below their intrinsic value. Our objective is simple: to buy a dollar for fifty cents. This approach ensures that we enter positions with a built-in margin of safety and clear long-term growth potential.
For many, the stock market appears to be nothing more than a game of green and red numbers, leading to impulsive decisions and eventual losses. This happens because most individuals speculate rather than analyse. They focus on short-term price movement without understanding the true value or fundamentals of the business behind the ticker.
Having invested in the market for over a year or two and having generated consistent returns, we have applied and refined this ATMOSPHERE model through real-world experience. This entire investigation consolidates everything we’ve learned, offering not just a methodology but a mindset shift.
Whenever you invest in the stock market, you should not think of it as simply buying a stock. Instead, consider it as buying an entire business. This perspective ensures disciplined and rational decision-making. You wouldn’t buy a business that has:
Negative or unstable financials
No future growth potential
Overvalued pricing
The same standards should apply when buying a share.
Each of us has the potential to create wealth through the stock market. However, only a few truly understand the long-term benefits of disciplined investing. Building wealth requires patience, vision, and mental strength. But with the right strategy and a carefully selected portfolio, the process becomes not just achievable—but almost effortless over time.
“Be fearful when others are greedy and greedy when others a fearful” Warren Buffett
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