Nobody can predict perfectly that a company’s stock will do very well, however there are guidelines that will help you to select those that do considerably well. Out of the thousands or hundreds of stocks out there, there are those we can refer to as winners and others the losers. Am sure you don’t want to be associated with the losers as much as you would want to own the winners. The winners are stocks that has the potential to do well and which actually do well. By doing well I mean to actually increase in value and make the shareholder profits – which is the reason you are involved in the market in the first place.
Over the years in my stock trading experience, I have bought both the winners and the losers. But the more experienced I become, the more I learn how to identify the winners and to go for them and how to identify the losers and to avoid them. Almost every economic sector has winners and losers: Banking, financial services, Oil and gas, agriculture, consumer goods, Industrial goods etc.
In sieving out the winners from the losers out of the thousands or hundreds of stocks out there, there are two stages I would want to take you through. The first stage may probably reduce the number from hundreds to say ten to twenty, while the second stage will further sieve out more losers and give you the real winners that you deserve to associate with.
In this stage you select some stocks which you choose for further consideration by asking yourself the following questions:
1. Do I really understand this company, what it does, its products?
Never invest in what you don’t understand. You should be able to know what a company is all about, what it does, how it makes money, her product, her competitors, whether it’s a target for government legislations and regulations, users of its products and services and its market niche. This will give you a better idea of what you are getting yourself involved with and help you to make better decision.
2. Can I be proud to own this company in real life?
Billionaire Warren Buffet advised that when buying stocks, you should pretend you are buying the whole company. This will help you to have an in-depth look into the company’s potential and to see pass its current economic and social status into its future.
3. Am I diversifying?
Diversification is a process of spreading the risk when you are investing or not putting all your eggs into one basket, so that when the worst happens, you don’t lose everything. In stock investing it could mean not having all you stock in only one economic sector. I don’t advise anyone to have more than three stocks in one sector at any one time.
4. Are the number of stocks the amount I can keep track of?
Don’t invest in more than you keep track of. No matter how good all the companies you own are, if they are too many, you won’t be able to monitor them. Therefore, keep only the amount that you can be able to monitor. I don’t advise that they exceed twenty. Also in addition to being able to keep track of your investment your capital should also determine the amount of stocks that you should own. If you don’t have so much money then it is useless to invest in too many stocks, because it will dilute the growth of the winning stocks as the loosing stocks will dilute the overall portfolio growth. If you have less than N100,000 it is better to invest in not more than three stocks and if you have between N100,000 and N1000,000 don’t invest in more than ten stocks.
5. How known is the company’s brand name?
Companies with good brand names are often good to buy, because people tend to generally pay more for brand name items.
6. Does the company have some form of monopoly?
This is not a must consideration, when considering a stock, but have it at the back of your mind that monopoly companies i.e. companies that have no competitors are most times the best to own.
7. Does the company have a good management team?
If the company doesn’t have a sound and honest management, avoid investing in that company at all cost. Also, if you have already invested in the company and later found out that the company’s management is corrupt and not honest, it’s better to liquidate your stocks, because anything can happen to the company and you lose your hard-earned money.
8. How long has the company been in operation?
Avoid companies that have been in operation for less than ten years. It’s better to go for companies that have been in operation for over a decade. I don’t mean that stocks of companies that are below ten years old can’t make good buy. Remember, what we are doing is to lower the odds of selecting a bad company stock. Companies that have existed for over ten years are more unlikely to go under than those that are below ten years.
The first stage, I believe would have helped you to sieve out the winners from the losers. Now using numbers and rations and figures, let’s see how you can further put the remainder stocks to the test and select the likely true winners. The numbers or figures to look for include:
1. Market capitalization: This equals the number of outstanding shares multiplied by the price per share. This is basically the current price of the company or how much it will cost to buy the whole company. The market capitalization of your prospective company should not be less than N1 billion. This will ensure that you don’t invest in a company which can close down, and disappear in no time, making you lose your investment. The higher the market capitalization, the better, because in addition to ensuring that the company doesn’t close down tomorrow, you also want to make profits. Companies with large capitalization pay the biggest dividends, because, their company is already grown and built and so instead of reinvesting almost all of part of their profits they simply pass it on to their share holders.
2. Liabilities: This shows how much the company is owing or has a debt. Sometimes debt can be used to make more investments and money. However, if a company is not making much money to justify its debt, then it’s not a good sign. If the debt keeps rising without a commensurate increase in profits and sales, it’s a bad sign.
3. Current ratio: The higher this figure, the better. The higher the current ratio, the more likely it is for the company to be able to pay off its short-term debts and bills. Current ratio is gotten by dividing the company’s current assets by her current liabilities.
4. Debt to equity ratio, D/E ratio: Debt is what a company owes and equity is what it owns. Therefore, debt to equity ratio is gotten by dividing the company’s total liabilities by shareholders equity. D/E ratio shouldn’t go above one. A higher D/E ratio means that the company has a lot of debt in comparison to its equity.
5. Return on equity, ROE: This is gotten by dividing the company’s net income by the shareholders equity. The higher the ROE, the better. The shareholders equity is the company’s net worth or the difference between the company’s assets and its liabilities.
6. Return on assets, ROA: The higher this value, the better. It shows how well the company is doing with its assets. ROA is gotten by dividing the company’s net income by its total assets.
7. Return on sales, ROS: This gives you an idea of how much profit the company is making from the products it sells. ROS ratio is gotten by dividing the company’s net income by its sales revenue. The higher the ROS, the better.
8. Price to sales ratio, P/S ratio: The lower this value the better. A high P/S ratio shows that the company’s share are expensive. The P/S ratio is gotten by dividing the company’s stock price by sales per share over the past year.
9. Earnings per share, EPS: If this value is rising overtime, it shows that the company is increasing its profit. It is gotten by dividing the company’s profit (net revenue ) by the number of outstanding shares.
10. Price to earnings ratio, P/E ratio: This value can help you to tell if a stock is overpriced. An overpriced stock shows that a company is not making much money compared to its price. The lower the P/E ratio, the better. The P/E ratio is gotten by dividing the company’s stock price by its earnings per share, EPS, over the past year.
11. Price to book value: The lower this value, the better. A lower value shows that the company has a lot of assets compared to its price and in the event that the company is dissolved in future, its assets could be sold for cash which could be passed on to investors. This value is gotten by dividing the company’s stock price by its book value (net worth) per share.
The above indices can be found on the company’s annual reports or research report. Research reports will give you a more candid report because it’s usually done by independent monitors, whereas the annual reports are released by the company management. And chances are that the company may release a report that paints a favourable picture about their company even when the true situation is bad. Research reports can be gotten from the internet.
Therefore, from a research report, you can examine a company by looking out for the above figures. Look at the same figures for other company in the same industry with the company you are considering to buy.
The above figures have significance. They show if the company is financially stable or in much debt, if the company is profitable or makes much money, if the share price of the company is good or bad. Indices 1 – 4, will show you if the company is financially stable, indices 5- 7 will show you if the company is profitable and figures 8-10 will show you if the company’s share price is good.
No one company will have all the above figures to be perfect because there is no perfect company, but a fair company will have several of the indices to be o.k. These figures will just help you to be guided aright.