Investing in stocks for beginners: Focusing on just one or two factors, in our opinion, is sure to cut your returns, in the long term if not in the short.
Learning what not to do is a key part of an investor’s education.
Investing in stocks for beginners: Don’t let technical analysis, or any one factor, override your strategic investing decisions
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Focusing on technical analysis, in our opinion, is sure to lead you to lose money, in the long term if not in the short. But we’d say the same thing about focusing on p/e ratios, or dividend yields, or the number of patents a company owns. You need to look at the overall picture, rather than confine your view to a few pixels.
That’s the trouble with zeroing in on any single facet of investing—a trading or investing technique, a particular industry, a single commodity or whatever. With a narrow view, you can get lucky and make a handful of brilliant trades. But to profit consistently in a long investing career, much less make any serious money, you have to take a broad view of the market and economy, you have to learn how to single out stocks that will go up and stay up, and you have to learn to diversify. Many investors are well past age 35 when they make that essential discovery.
Investing in stocks for beginners: Put your focus on fundamentals
Fundamentals are essentially a company’s financial numbers. These include the company’s balance sheet, statement of cash flows, and income statement, as well as other qualitative and quantitative measurements that can highlight the health and growth prospects of a company.
Using a stock’s fundamentals is also known as “bottom-up” analysis. Using the bottom-up approach, you focus on understanding what’s going on, rather than trying to predict what happens next.
You could call this descriptive finance. You delve into earnings, dividends, sales, balance sheet structure, competitive advantages and so on. From there, it quickly becomes obvious that there’s an awful lot you don’t know about the risks in the investments you are considering. So you try to design a portfolio in which the risks offset each other.
Over periods of five years and beyond, top investment honours usually go to members of the bottom-up crowd. That’s partly because bottom-uppers tend to make fewer big mistakes. This lets their gains accumulate. This also leads to longer holding periods, which provide greater tax deferral and lower brokerage costs.
Investing in stocks for beginners: Take a broad view to find your way to success
When they choose stocks, many investors try to cut their workload by taking a narrow view. Rather than look at a wide range of information, they prefer to zero in on one or at best a handful of indicators. This can do more harm than good.
For instance, many investing newcomers get the idea that you should only buy stocks that trade at a below-average p/e ratio (the ratio of a stock’s price to its per-share earnings). Some go so far as to reject any stock that trades above some arbitrary cut-off, such as 10 times earnings.
This prejudice ensures that you will avoid some stocks at precisely the best time to buy, or buy others that you should avoid.
Many disasters-in-waiting go through a low-p/e period prior to their eventual collapse. This low-p/e period occurs because people close to or involved with the company recognize that it has serious problems. They sell their own holdings, and they tell their friends and relations to do the same. (This pushes down the ‘p’ or price of the stock, lowering the p/e ratio.)
These problems can be due to a weakness in the business model, rising competition, doubts about the quality of the company’s management or insiders, or involvement in a business or industry that is headed for a downturn. When one or more of these problems flares up, it can devastate the company’s earnings overnight and send its p/e ratio sky-high.
Investing in stocks for beginners: Too many stocks can hurt your returns
When they’re starting out, most investors should aim to invest in a minimum of four or five stocks. Our Successful Investor investment advice is to pick one from each of most, if not all, of the five main economic sectors (Manufacturing & Industry; Resources; Consumer; Finance; and Utilities).
You can buy them one at a time, over a period of months or even years, rather than all at once. After that, you can gradually add new stocks to your portfolio as funds become available, taking care to spread your holdings out as we advise.
What did you focus on the most at the beginning of your investing career?
What is a big mistake you made early in your investing career that taught you better ways to invest?