Choosing a stock for investment is much like buying a car, where you always need to take into account many factors, from the technical characteristics to the reputation of the manufacturer and the color of the cabin. Below we will place the 5 steps for researching stocks.
Stocks are long-term investments, and of course are subject to fluctuations, sometimes significant, so the investor needs to be prepared for this and invest the money that he definitely will not need in the next 5 years.
To study stocks there is a concept of fundamental analysis. Fundamental analysis of any stock consists of 4 steps.
Step 1.
Study a company’s financials.
There are some documents that companies have to file with the SEC:
An annual report that shows the sources of income, a statement of the company’s operations, income and expenses.
A quarterly report on operations and financial results
The SEC EDGAR site has a database where you can find the reports mentioned above.
Step 2.
Quantitative stock research.
Among the many indicators in the reports an investor should pay attention to the company’s revenues. Revenues are operational and non-operational. Operating revenue comes from the company’s core business, so it is the most informative. Non-operational revenue comes from the sale of assets and other business operations .
Net income is the total amount of money a company has received after subtracting operating expenses, taxes, and depreciation from revenue.
Earnings and earnings per share (EPS). Earnings per share is calculated by dividing the profit by the number of shares available for trading.This indicator is not the most informative, but it helps to make comparisons with other companies.
Price/Earnings Ratio (P/E) – Calculated by dividing the current stock price by the company’s earnings per share (over the past 12 months).
If you divide the stock price by the analysts’ projected earnings, you get the projected P/E ratio. The projection ratio shows how much investors are ready to pay to get $1 of the company’s current profits.
However, because the potential earnings per share may not justify the projections, the calculated ratio is not an accurate measure.
Return on equity (ROE)-reflects the percentage of a company’s profit for every dollar invested by investors.
Return on Assets (ROA) – shows what percentage of profit a company gets from each dollar of its own assets.
These measures tell us how efficient a company is relative to its profits. But it should be understood that there may be artificial increases in profitability here, due to the company buying back its own stock.
Similarly, taking out large amounts of credit will increase the amount in assets that is used to calculate return on assets.
Step 3.
Qualitative stock research.
Invest in stocks of companies whose activity is clear to you, because you are acquiring your own share of the business.
Also look at the competitive ability of the company, the more innovative abilities, ownership of patents, excellence in operations or distribution, the greater its competitive advantage.
Analyze the actions of the company’s management, how effective the management strategy is. This can also be learned from the managers’ comments in the annual reports. If the board of directors consists only of company insiders, this should alert you. It is imperative that there be independent people on the board to objectively evaluate the strategies of the company’s management.
You should be interested and alert to any events that hint at a change in the company’s course in the long term: the arrival of a strong competitor or technology that will displace the company’s product or service, the expiration of a patent, or a reshuffle in the management team.
Step 4.
Study the stock from a long-term perspective.
Get an idea of what makes a company worthy of partnership for years to come. To do this, look at the company’s history, how it has gone through tough times, whether it has maintained its profits or returned them after crises. And be sure to compare all of the above ratios and metrics with competitor companies and with industry averages in general. For this purpose, you can use the stock screener, an educational tool at your online broker.
Step 5.
Don’t panic when you see market fluctuations and don’t forget that the stock can be sold.
To understand how volatile a stock has been over the year, look at its 52-week highs and lows.
Experts believe that individual stocks are always more volatile than diversified mutual funds.
You need to have a clear understanding of when to sell stocks, this will protect you from panicking when markets fluctuate. Remember, the profits your stocks will bring you are not set until you sell them.
Situations when you should think about selling stock:
Business has gotten worse or there is a strong competitor in the market or significant constraints on the company’s operation . The profitability of the company is declining and so is the value of the stock.
Investment objectives have been met. For example, the goal was to save for education, a house, and a new business. When the goal is achieved, the stock is usually sold.
So, if you follow these steps, you can build up a strategy to study stocks and make decisions about your investments.
For more stocks research tipps and how to invest in stocks today with regulated brokers, our review and comparison you can find always here.
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