The first step an investor, who want to invest in stock, is to research the company before investing. Before starting to invest in stock market, your goal must be to determine how much a business is really worth.
To do so, focus on what annual income the business can return to you, not only on the share value. View the market price just as a point of reference to determine whether a company is undervalued, correctly valued, or overvalued at its present price. Investor must not only invest in a company because its stock raises or sell as a result of its stock going down.
An investor should examine the traditional standards of valuation. Ultimately, judge a business by how well it can convert sales to profits and the annual rate at which the profits increase. A company is worth the present value of its expected earnings. To estimate these future earnings, an investor should look initially to the past since a company’s growth record is generally, but not always correctly, the predictor of its future course. Averaging past earnings will help you more realistically assess how well a company is likely to do in the future.
The following list comprises some of the characteristics of growing profitable company stocks. If a company has:
High return on both return on equity ROE.
Good growth record over the past five years, with a growth rate of around 20 percent.
The current assets must be twice the current liabilities.
Little or no debt.
Uninterrupted payments of more than one percent dividends for at least a five years.
Leading edge products that has competitive advantage in the market.
Strong products with future demand.
Ability to have pricing flexibility due to good market position.
Financial and marketing strength to move into new market, and
Great management capability and depth.
Also, before buying any stock you should consider the level of business risk. The more unpredictable a company’s earnings are, the less you should invest in this kind of company.
Also, investors may consider using book value as a good measurement of growth, since as a company’s book value increases, so does its intrinsic value and share price. Over time, book value and share price growth correlate closely. A good measure of performance is the company’s growth in per-share book value. Most companies increase their book value by expanding profits, producing high returns on assets, and acquiring companies that add economic value.
We can take an example of Berkshire Hathaway’s book value, to examine how Warren Buffett’s net worth increased due to the success of his way to select company to invest. Investor can learn from the characteristics Buffett seeks in choosing stocks of some companies, such as Apple, Coca-Cola, Bank of America, etc. these companies are:
- Being in a profitable business with a simple business model
- Generating a high level of cash flow
- Being in a relatively unique business with a good position in its market
- Having stable management
- Being available at prices that are mathematical, economic, and logical
The fundamental of your approach should be also by using mathematics to determine whether an investment has financial benefits that work in tandem with other key principles. If you choose good companies at fair prices to invest in, you will generally see stock increases, since over a period of years, an increase in the value of the company and an increase in the price of the stock normally correlate. If you have chosen well, the power of compounding means that your net worth will grow increasingly higher as a result of:
- The longer your income can compound in value, the larger the amount will be
- Your rate of return acts as a lever to magnify or minimize your wealth. Adding just a few extra percentage points a year to your returns will gradually increase your wealth.
An investor should rely on the principle that, in the long run, a perfect correlation between price and value will emerge. Over time, the price of any asset will find its intrinsic value, whether stocks, bonds, real estate, currencies, precious metals, or even the United States economy as a whole. Accordingly, never buy stock that you can’t justify in light of the company’s long-term growth rate.
Before investing, you should be cautious about any stocks that are rising much faster than the growth in the value of the company. When investors pay too much for a stock, they are behaving irrationally since prices will eventually re-align with value.
Also, the biggest mistake some investors endure is basing stock trading decisions on the actions of others. For example, you are better off if you ignore exchange market performance predictions, such as the belief throughout most of the 1990s that investors should expect 11 percent annual returns on the stock market. Extrapolating stock-price trends is dangerous, since the stock market often doesn’t behave as predicted.
Moreover, buying too many stocks puts a statistical ceiling on your earnings. To be a successful investor, you act as an intelligent investor rather than speculator. Therefore, you should pay less attention to the marketing scripts, such as automatically linking past returns to the future, although it is one of valuation element as we mentioned earlier. Instead, greatly pay attention to the value of an asset, which is based on its earnings. Over the long term, no asset can grow faster than its earnings.