There are literally thousands of companies whose stocks are traded on the market. To separate the winners from the losers, investors need to know how to ask the right questions.
When looking at a stock, it’s best to act like a five-year-old and never stop asking questions such as: Why do people like or need the company in their lives? Why do they consume its products? Is the company selling a revolutionary innovation or is it a trendy start-up that’s going to fade away?
You should also ask: Why is now the right time to buy? After all, major corporations like Nike, Exxon and Microsoft have existed for decades, so why should you invest in them today? Well, maybe they just tapped into a new and promising market or have nailed down a profitable long-term trend.
Another strategy is to seek out companies with a genuine competitive advantage, that is, one or more attributes that help them outperform competitors. One such attribute is pricing power, a company’s ability to easily raise prices while retaining its customers.
Just look at Apple. When the company launches a new iPhone, they barely even consider the prices of their competitors. Instead, they set their own prices with the knowledge that consumers desire Apple products and will pay a hefty price to get them.
Finally, you should steer clear of companies that can’t anticipate change. In fact, there are plenty of ways to sniff out a company’s danger of incurring heavy losses in the near future due to this flaw. Two such indicators are cheap competition and the rise and fall of technology. Take Kodak, which fell out of fashion with the rise of digital photography, causing the demand for film cameras to plummet.
Then again, some companies can better adapt to changing trends. For example, Coca-Cola is no longer just a soft drink company but has expanded its product line to include other drinks that meet the ever-changing needs of consumers.
Today, financial markets are prone to drastic drops and spikes. These changes can be caused by mood swings prompted by the overexcitement and exaggerated disappointment of investors.
That’s because, today, investors are taking in too much information, gossip and rumors from the media. They overreact to this information overload by buying and selling too quickly. As a result, investors today hold on to their stocks for exceedingly short periods of time.
For instance, in the 1960s, people held stocks for an average of eight years. Today, people will generally sell them after just six months. This rapid buying and selling also fuels the drastic fluctuations of financial markets.
So, keeping your cool is key, and you shouldn’t pay attention to daily fluctuations in stock prices. Say you just invested a lot of money in stocks. You might be tempted to check the price movements of your stocks on a daily basis.
But it’s rare that prices go up every day, and even small decreases could frustrate you, causing you to sell too soon. Instead of checking prices on a monthly or even yearly basis, you should give the companies you’re invested in the time they need to implement business strategies and grow in the long term.
Then, once you’ve immunized yourself to the market’s mood swings, you can begin profiting from those who haven’t. That’s because buying stocks is a little like buying an umbrella.
If you walk around New York City on a rainy day, you see loads of vendors selling low-quality umbrellas for exorbitant prices. But if you walk the same streets on a sunny day, the same umbrellas will be selling for half the price.
Now apply that to the way distressed sellers respond when the market isn’t working in their favor. Smart investors can jump on the opportunity presented by the panic of others who want to sell at all costs. That’s because such moments are the best time to buy stocks at bargain prices.
Investing might seem like it’s all about making more money, but the truth is, good investors make it their priority not to lose money. The best way to do this is to buy cheap.
When you buy a high-priced stock, you expose yourself to potentially huge losses if the price plummets. Obviously, this damage is reduced if you go with cheap stocks.
Imagine stocks as students. There are reliable, straight-A students, which are analogous to your expensive stocks, and everyone knows that they are great. Then there are good students who have temporary problems: these are your cheap, but valuable stocks.
Maybe they were absent a few times or failed a test. Still, these stocks have massive potential because their imperfections make them much cheaper than their real value.
So buying cheap is key, but it’s also important to remain conservative with your expectations. That’s because you can’t predict the future and shouldn’t bother trying. Instead of hoping for the best possible outcome, you should strategically construct scenarios that don’t rely on a company defying all odds. That requires being realistic and determining whether a company can turn healthy profits even in imperfect conditions.
Just take Tesla. Some speculators might bet on the company’s next car being a huge success, but a wise investor would only buy shares of the company if the company has a plan to build a healthy business based on modest, but long-lasting success.
And finally, when embarking on your investment journey, be sure to diversify your stocks. After all, the less experienced you are, the less you’ll know about the specifics of any given sector.
Therefore, the greater the diversification, the smaller the impact if one of your stocks crashes because the rest of your portfolio can curb the damage. For instance, if you invest solely in banks, your entire portfolio will crumble in the event of a banking crisis.
If you’re new to investing, you might think that the stock market is a way to get rich overnight. But the truth is that investing is about patience, discipline and rationality. By planning strategically and sticking with your investments, you can build up the portfolio and the wealth you’ve always dreamed of.
So try this one out. The great thing about investing is that you don’t have to be always right. Even if you’re wrong with a few investments, you can still turn a profit with the rest of your portfolio. So accept your mistakes and know they’re not deadly. You can even use these failures as inspiration to learn and do better the next time.
Check out my related post: Why should you invest in real estate?