When it comes to personal
finance and the accumulation of
wealth, few subjects are more talked about than
stocks. It's easy to
understand why: playing the
stock market is thrilling. But on this financial roller-coaster ride, we all
want to experience the ups without the downs.
In this tutorial, we examine some of the most popular strategies for finding
stocks (or at least avoiding bad ones). In other words, we'll explore the
art of stock-picking - selecting stocks based on a certain set of criteria, with
the aim of achieving a rate of return that is greater than the market's overall
Before exploring the vast world of stock-picking methodologies, we should
address a few misconceptions. Many investors new to the stock-picking scene
believe that there is some infallible strategy that, once followed, will
guarantee success. There is no foolproof system for picking stocks! If
you are reading this tutorial in search of a magic key to unlock instant wealth,
we're sorry, but we know of no such key.
This doesn't mean you can't expand your wealth through the
stock market. It's just better to think of stock-picking as an art rather
than a science. There are a few reasons for this:
The bottom line is that there is no one way to pick stocks. Better to think of
every stock strategy as nothing more than an application of a theory - a "best
guess" of how to invest. And sometimes two seemingly opposed theories can be
successful at the same time. Perhaps just as important as considering theory, is
determining how well an investment strategy fits your personal outlook, time
tolerance and the amount of time you want to devote to investing and picking
stocks. There are two basic risk balancing options: value investing
and growth investing.
So many factors affect a company's health
that it is nearly impossible to construct a formula that will
predict success. It is one thing to assemble data that you can
work with, but quite another to determine which numbers are
A lot of information is intangible and cannot
be measured. The quantifiable aspects of a company, such as
profits, are easy enough to find. But how do you measure the
qualitative factors, such as the company's staff, its
competitive advantages, its reputation and so on? This
combination of tangible and intangible aspects makes picking
stocks a highly subjective, even intuitive process.
Because of the human (often irrational)
element inherent in the forces that move the stock market,
stocks do not always do what you anticipate they'll do. Emotions
can change quickly and unpredictably. And unfortunately, when
confidence turns into fear, the stock market can be a dangerous
The best way to define growth investing is to contrast
investing. Value investors are strictly concerned with the here and now;
they look for stocks that, at this moment, are trading for less than their
apparent worth. Growth investors, on the other hand, focus on the future
potential of a company, with much less emphasis on its present price. Unlike
value investors, growth investors buy companies that are trading higher than
intrinsic worth - but this is done with the belief that the companies'
intrinsic worth will grow and therefore exceed their current
As the name suggests,
are companies that grow substantially faster than others. Growth investors are
therefore primarily concerned with young companies. The theory is that growth in
revenues will directly translate into an increase in the
stock price. Typically a growth investor looks for investments in rapidly
expanding industries especially those related to new technology. Profits are
realized through capital gains and not dividends as nearly all growth companies reinvest
their earnings and do not pay a dividend.
At this point, you may be asking yourself why stock-picking is so important. Why
worry so much about it? Why spend hours doing it? The answer is simple: wealth.
If you become a good stock-picker, you can increase your personal wealth
exponentially. Take Microsoft, for example. Had you invested in Bill Gates'
brainchild at its
back in 1986 and simply held that investment, your return would have been
somewhere in the neighborhood of 35,000% by spring of 2004. In other words, over
an 18-year period, a $10,000 investment would have turned itself into a cool
$3.5 million! (In fact, had you had this foresight in the bull market of the
late '90s, your return could have been even greater.) With returns like this,
it's no wonder that investors continue to hunt for "the next Microsoft".
Here is an outline of the basic theories of stock investment:
- The main objective of
analysis is to find the worth of a company, or its
value based on both quantitative and qualitative analysis.
a company is evaluated on it's financial statements and balance sheet. In
other words, a company should be worth all of its assets and future profits
affecting the value of a company are its management,
Technical analysis, the polar opposite of fundamental analysis, is not
concerned with a stock's intrinsic value, but instead looks at past market
activity to determine future price movements.