Given the diverse range of stocks available in the market, it is challenging to select shares to buy that suit one’s investment needs. Moreover, it is often challenging to skim through financial statements to identify which companies have a solid revenue and profits growth and a favourable debt position.
That said, there are a few factors that prospective investors can consider while selecting stocks for investment.
Selection of shares for investment
While the investment amount, time horizon and risk appetite vary with each investor, there are a few common pointers that can help all investors.
Investment goals vary among different investors. For instance, older investors tend to be interested in capital preservation as their retirement years approach.
On the other hand, when young investors select shares to buy, they usually aim to increase their returns and grow their portfolios over the years.
Therefore, it can be said that one’s goals dictate which stocks to buy:
- Individuals seeking regular income will turn to those stocks offering high dividend yields that have steady earnings and cash flows
- Those who desire growth are drawn to younger companies that exhibit promising growth in the future, based on the investment (through borrowings) made today
- Investors seeking capital preservation will opt for businesses that have been in operations for decades and reached saturation. Such businesses offer predictable and stable profits.
Once you have determined what kind of investment goals you have in mind, you can narrow down on the stocks-to-invest. In this respect, one of the key factors to look into is, whether a business has a sustainable and unique edge over competitors, popularly known as a moat.
Additionally, when individuals select shares to buy, it is important to ascertain the durability of this competitive advantage. That is, whether the company will continue to have its edge over its competitors for years to come.
Products and services with a sustainable and wide moat tend to be the ones delivering rewards to investors. Furthermore, one can weigh in factors such as scale, unique brands, switching costs, network, and intellectual property to conduct a thorough competitor analysis.
There are several ways to assess a stock’s current price and its financial performance. Here are a few of them:
- Price to Earnings Ratio or P/E: Having a very P/E ratio, higher than the industry average, at times indicates that the stock is extremely overpriced
- Price to Book Ratio or PBV: Same goes with the PB ratio as well. Ratios deviating a lot from the industry average, higher or lower, call for attention
- Earnings Per Share or EPS: It should indicate steady growth at least in the last five years.
- Debt to Equity Ratio: There cannot be a standard debt to equity ratio across sectors. Some industries do take on a lot of debt to expand their business such as manufacturing. Compare companies within the same industry to analyse the stock
- Current Ratio: Current ratio defines the liquidity position of the company. It tells us if the current assets of the company are enough to fund the current liabilities.
Do note that, the above-mentioned ratios are a few of the metrics with which one can assess a company, however, these are not the only metrics to consider for an investment decision.
An investment decision ideally should be backed by thorough research.
Also, read – How to Evaluate Stocks in India
Cyclical and non-cyclical stocks
These terms refer to the correlation of a company’s stock prices to fluctuations in the economy or any changes in the sector. It could also be seasonal.
- Cyclical stocks
Cyclical stocks include businesses that offer discretionary products and services, which are in demand generally when an economy is performing well. That said, when times are rough, these items are the first to get cut down by consumers. For example hotel chains, luxury clothing retailers, furniture, automobiles and so on.
Moreover, as one cannot foresee the ups and downs in an economy, it is tough to predict how well a cyclical stock will perform. These can be seasonal as well. For instance, auto sales usually pick up when the festive season is around.
- Non-cyclical stocks
Businesses with non-cyclical stocks offer products and services that are always in demand, such as essentials like food, gas, and water. As a result, these stocks are usually profitable irrespective of economic trends. In fact, they are also known as defensive stocks. These defend their investors’ wealth against the repercussions of an economic downturn.
That said, although non-cyclical stocks extend safety, their price will not skyrocket when there is an economic slowdown.
When individuals select shares to buy, it helps if they conduct thorough research about a company’s management and gauge its efficiency.
The potential investor can understand better if she/he attends managerial meetings (conducted every quarter to discuss the quarterly performance of the company). Alternatively, investors can also attend the annual general meeting (AGM) conducted every year to answer questions of shareholders.
Here are a few pointers to note on the management’s efficiency.
- Tenure of the management
One can determine a company’s stability based on the length of tenure of its management. Long tenure of top management usually indicates steady growth and consistency.
- Shareholding pattern
All the listed companies release this information every quarter as per SEBI, the market regulator, mandate. Now, you as an investor can check the holdings of different shareholders including promoters, institutions, Government and even retail investors.
Generally, a company with higher promoter holding means, the promoter is invested in the company, which could indicate the stability of the company. Similar is the case with institutional investors.
However, promoters are not required to have a higher stake in their company all the time. There are companies that do well with less promoter involvement as well. That said, you can still note the changes of shareholding to take a call on your investment.
Investment in securities market are subject to market risks, read all the related documents carefully before investing. Please read the Risk Disclosure documents carefully before investing in Equity Shares, Derivatives, Mutual fund, and/or other instruments traded on the Stock Exchanges. As investments are subject to market risks and price fluctuation risk, there is no assurance or guarantee that the investment objectives shall be achieved. NBT do not guarantee any assured returns on any investments. Past performance of securities/instruments is not indicative of their future performance.