Choosing shares to buy and sell requires time, research, and analysis. However, if you invest time and keep an eye on the market and economy, shares can grow your wealth over time. Here are some points that could help you in stock selection.
Understanding the Economy and Financial Environment
As a starting point, educating yourself about how economic and market changes can impact a company’s earnings is essential.
The more reliable your information, the better your decisions will be. Here are some places where you can get information about market changes:
- The website of the country’s central bank, i.e., RBI’s statement on Monetary Policy, for commentary on the Indian economy.
- The business section of reputable websites, magazines, and newspapers for new economic information.
- The research department of banks and stockbrokers for forecasts about economic conditions.
Points to look at in the reports could be:-
- The economy of the country.
- Interest rates.
- Government policy.
- Exchange rates.
- Investor sentiment.
- Overseas economies and markets that are relevant to the business.
It would be best to focus on industry-specific or regional influences that might impact a company’s profits.
Finding Shares to Buy
Share selection is a complex task. Investment in a share means investing in a company. It’s essential to believe in an overall economy, the sector to which the company belongs, and the company itself. Share selection becomes convincing. In an overall investment environment, different types of companies could be listed on an exchange and offer shares to the public. Careful selection of companies is a prerequisite for a long-term stock investment.
Blue Chip Companies
If you are going to choose your shares, a good place to start is with the NSE Nifty 50 or BSE Sensex companies. These indices are made of top companies based on market capitalization. These companies are commonly known as ‘blue chip’ companies. Blue chip companies tend to be long-established, stable companies that suit investors looking for steady returns with less risk.
Speculative Companies
Companies that don’t have a long history and are not in the top 100 are known as ‘speculative’ companies. While there may be potential for a significant return, be aware that the opposite is accurate, and you could potentially suffer substantial losses. Speculative shares are most suited to experienced investors who are prepared to risk their initial capital in the hope of higher returns.
Invest in Companies that You Understand
Start with an industry or business you understand. You have a better chance of recognizing if a company is weak or strong if the industry is familiar to you. Check out the websites of the National Stock Exchange and Bombay Stock Exchange for a breakdown of industry sectors.
Once you have a list of companies, consider the competition a company faces and how it compares to others in the sector.
You should find out the following:
- What is the company’s position in the market?
- Are the goods and services it provides likely to be in demand in years to come?
- Are there opportunities for the company to grow in the future?
Capital Growth or Income?
Work out what you want from your shares. For example, do you need regular income, or do you want capital growth?
If earning a regular income is essential, look at companies with a track record of paying high dividends, which tend to be the larger companies on the NSE or BSE.
Smaller companies are often focused on growth, so they are more likely to reinvest their profits in the business rather than pay dividends to their shareholders.
Market Sectors
Each sector of the market has its benefits and risks. For example, as a general rule:
Financial Sector
Banks and other financial institutions usually offer steady income through high dividends.
Metals Sector
Mining companies offer the potential for high capital growth but tend not to provide significant dividends. In addition, this industry can be highly cyclical, which means it does well when the international economy is healthy but badly when suffering.
Consumer Sector
FMCG companies offer medium-sized dividends. As a result, this sector tends to move up and down with the economy.
Annual Reports
One of the best sources of information is a company’s annual report. This contains many important things you need to know about a company, including:
- Core business activities,
- Prospectus,
- Whether the company is making a profit or loss,
- Company strategy.
Annual reports can overwhelm you with information, so focus on some key parameters.
Prospectus
If a company is issuing shares for the first time, its prospectus is another valuable source of information.
Comparing Companies in the Same Industry
Comparing a company to its competitors is one way of assessing its value. In addition, companies release essential information that will give you some idea of whether their share price is under or overvalued.
Bear in mind that these are straightforward comparison tools. Professional investors often take months to determine whether a share is worth buying. This is because they are trying to predict how much profit a company will make in the years ahead. No one measure will give you the information you need, so always use a range of sources.
Here are some comparison tools that you could start with:
Earnings per Share (EPS)
EPS is the portion of a company’s profit allocated to each claim. Therefore, the higher the EPS, the more a share is potentially worth. Companies publish their earnings per share so that you can find this information on their website, their annual report, or the stock exchange’s website.
Price-earnings Ratio (P/E)
This can be a good way of determining whether a share’s price is over or undervalued compared to its competitors. In general, the lower the ratio, the better. But a low ratio is not always a good thing. For example, it could mean that the market expects earnings to be lower. To calculate a P/E percentage, divide the share’s current price by the earnings per share.
Dividend Yield (%)
Dividends are paid from profits and can be a good reflection of how the company is performing. But a high yield is not necessarily good, especially if the dividends come from borrowings. So to work out the yield, divide the dividend per share by the share price.
Choosing which shares to buy and tracking their performance gives you a sense of control and can be very gratifying. Just remember to research and keep up to date with your company’s performance.
Diversify Your Portfolio
Shares are considered growth investments and can give you strong returns over time; however, higher potential returns usually come with higher risks. So before you invest in shares, think about what would happen if you lose some or all of your money.
One of the best ways to protect your portfolio is to diversify and spread your investment between different industries. Investing in eight to ten companies in various industry sectors is less risky than just one or two.
That way, you can take advantage of each company’s strengths and are better protected if one industry has a bad year. Also, if one company goes belly up, you will only lose a part of your investment, not your whole portfolio.
Conclusion: Stock Selection or Managed Investment; the Choice May Vary.
Building a portfolio of shares could be rewarding, but you need the skills and experience to make it worthwhile. If you’d instead leave the decisions to someone else, there are other ways to invest in shares. For example, you might consider investing in ETFs or Mutual Funds.
