When you know which questions to ask, you’ll feel comfortable making stock decisions.
When you’re investing in stocks, one of the important things to understand is that what you and other investors buy and sell, and what you’re willing to pay, helps determine individual stock prices and the overall performance of the stock market.
If investors are buying a particular stock, the demand increases its price. Similarly, when investors are putting lots of money into stocks, the stock market in general rises. But if they choose other investments instead of stocks, the market in general declines.
One way to invest is to adopt one of the stock-buying strategies that have worked well over the years. You can buy and hold, which means concentrating on building a portfolio of stocks with long-term potential for income, growth, or both.
Or you can trade, which means you buy when you expect a stock to increase in value, and sell when it reaches a certain price or increases a certain percentage in value. Or you can use both strategies selectively if you have a plan in place.
A time to buy…
When you’re thinking about buying a particular stock, you should seek the answers to several important questions from your own research and your financial advisor.
- Are the company’s earnings growing? At what rate?
- Are the revenues and profits up or down?
- How much debt the company have? Why?
- Are its products or services competitive in the markets it reaches?
- Are new markets available?
- What’s going on in the economy at large that might make a difference to the company’s success?
- What are the strengths and weaknesses of the management team?
To find the answers, you can check investor updates from the company, read financial news and analyses online, research what independent analysts are saying, and consult with your broker or other financial advisor.
And a time to sell
Buying the right stocks could have a major impact on how well your investment portfolio does. But don’t underestimate the importance of selling at the right time. In fact, it’s just as to have a strategy tor selling as it is for buying. Here’s a list of some guidelines that investors follow. Obviously, you can’t adopt the mall since some contradict others, but you can use them selectively in developing your sV1e of investing:
- Sell if a major change in the company’s stability or direction.
- Sell any investment that gains a predetermined percent in value, because holding out for a higher gain may mean losing excellent profit.
- Sell investments that are down at the end of your tax year it you can u” the loss to offset capital gains when you file your income tax return.
- Sell any that drops a percent in value to limit your losses.
Weigh the price
In deciding whether to buy a particular stock, you’ll have to determine if it’s worth the current price. In essence, you’re trying to figure out if it’s likely to increase in value so you can sell at a profit, or whether the stock will pay enough in dividends to justify the cost.
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Although nobody can accurately predict changes in price, your financial advisor can tell you what analysts expect, based on the information currently available. And, you can learn to detect recurrent patterns in stock prices. When interest rates are low, and the amount you can earn with other kinds of investments is limited, for example, the price you pay for stocks may be higher than in periods when you can earn high interest rates on bonds.
The P/E ratio
One way to measure a stock’s value is by looking at its price/earnings ratio, or P/E — though you should think of it as one part of the equation, not the only indicator. The ratio is figured by dividing the current price per share by its earnings. Trailing P/Es use earnings for the past four quarters, and forward P/Es use earnings for the last two quarters and projected earnings for the next two.
A P/E goes up as investors pay more to own the stock. While no ratio is necessarily too high, some analysts question whether investors can expect a price to continue to rise if earnings don’t also increase. This means they would advise against buying stocks with significantly higher than average P/Es.
There are also questions about stocks with lower than average P/Es. These stocks may be good buys because they are undervalued and likely to increase in price over time. But sometimes a stock with a low P/E is in serious financial trouble and therefore a poor investment.
Set dollar limits
One approach to stock buying is to set dollar limits for your investments and simply not consider stocks that cost more than your self-imposed ceiling. This strategy lets you create a more diversified portfolio for the same investment amount. Here are two ways, for example, to make a $20,000 investment:
Look at benchmarks
One way to gauge how well your stock portfolio is doing is to look at it in relation to the way the stock market in general is performing. One of the best-known measures is the Dow Jones Industrial Average (DJIA), whose ups and downs are always in the news. Since the DJIA monitors 30 major companies, however, it may not reflect your personal portfolio.
If most of your stock is in large companies, the Standard & Poor’s 500 Index (S&P 500) is the one to watch. It tracks the performance of a broad base of widely held stocks in different sectors of the economy. And if you have investments in an even wider range of stocks, you can look at the Russell 2000, which tracks about 2,000 small-company stocks and is widely considered the benchmark for small-cap performance, or the Wilshire 5000, which tracks all stocks actively traded in the United States. If your portfolio consistently performs more poorly than the index you’re using as a benchmark, it may be time to reevaluate your holdings.
You can also judge the performance of an individual stock by comparing it to an industry-specific index, which companies include in their annual proxy statements. If you discover, for example, that most utility company stocks are prospering while the one you own is not, you may decide to sell and invest your money elsewhere.
The monthly statement you get from a broker or financial advisor may not include index information, but it does give you information that you can use to track performance, including current stock prices and your annual dividend earnings. More comprehensive statements also show the original price you paid and your unrealized gains and losses.
When To Buy And Sell A Stock? by Inna Rosputnia
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