Factors to Consider When Buying StocksApril 29, 2022
Investing in stock is more than just finding the right price to sell or buy stock. It involves taking a lot of factors into consideration to ensure you invest your hard-earned money in the right place. Here are a few factors that you can consider to help you find the best stocks to buy:
- Monitor your investment portfolio regularly: It’s essential to monitor all your investments as financial markets tend to be dynamic. Constant monitoring of your portfolio can help you know when to liquidate or sell your investments to get a higher return.
- Analyze a company’s track record and the quality of management: For example, for companies using debt instruments, check their credit ratings to analyze the company’s ability to meet its financial obligations. For equity and debt instruments, you can check on the debt-equity ratio, net profit after tax, revenue, and market capitalization.
High sales revenue doesn’t necessarily mean that a company has excellent net margins. Net margin is net income as a proportion of sales or how much profit gets generated due to sales. Therefore, some industries require lots of revenue to generate high profits, while some generally have high margins due to their nature. For example, software companies tend to have high net margins and can be great to invest in. Also, note that companies with high net margins, don’t have to be among the top-performing companies. You can also look at a company’s prospects to avoid missing out on a great opportunity.
Free cashflow is the amount of cash that a company remains with after reinvesting in itself or in the business operations. A company can use free cashflow to buy other companies, fund expansions, save for future opportunities, or pay dividends. A company with a solid or high free cashflow can be worth investing in as it is a sign that the company is competitive and has a bright future.
To calculate free cashflow, subtract net investment in operating capital from net profit after tax. You may also use a similar measurement method known as a free cash flow to equity (FCFE). Investors often use FCFE to assess the economic value of a company.
Another important factor to consider is the kind of risk your investment attracts. For example, investing in traditional instruments, like bank fixed deposits, gold, government bonds, or saving certificates, can attract a lower return since the risk of investing is low. On the other hand, investing in listed securities carries high risk, but the returns tend to be high. So, be sure to do a risk-return analysis to help you know the best stocks to buy. A framework called modern portfolio theory (MPT) uses statistical measurements such as alpha and beta to help investors understand investment risks. To learn more about what is the difference between alpha and beta and how it relates to risks and returns, click on the link.
Investing in stocks can be rewarding when you make the right choices. Be sure to consider the above factors as you decide on the stocks to invest in. Also, consider your goals and financial stability to help you make a strategic decision.