Ten Tips for Buying Stocks

28
December

New investors should start slow and view their stock purchases as a learning experience. It can take many years to learn how to interpret financial statements, and even longer to develop the discipline needed to control the emotional swings the stock market can bring. Below are ten tips for new investors.

  1. Choose a discount broker. There’s really no need to pay large commissions when buying stocks for the first time. Commissions can really impact returns. Investors should seek to keep commission costs under 2% of their total purchase. Any of the large discount brokers can provide good service and good rates of under $10 per trade.
  2. Start with what you know. Beginning investors should start slow and pick a company that will keep them interested. It can be a favorite consumer brand or a company in an investor’s career field. Following news developments and earnings releases should be exciting and fun. It should also provide an opportunity to learn more about investing.
  3. Don’t pay too much for shares. This isn’t a reference to the price per share, it’s more of a reference to the price to earnings ratio. Assuming the same growth rate, a company that earns $10 per share but is priced at $100 is cheaper than a company that earns $0.25, but is priced at $5.00 per share. Investors should seek to purchase as much in future earnings as possible.
  4. Only invest if you have a long-term time horizon. The stock market can be extremely volatile. Prices can swing 20% or more in a month. It doesn’t make sense to invest money in the stock market that you will need next month or even next year. Most financial experts recommend that you invest only the money you will not need for five years or more.
  5. Remain patient. Similar to maintaining a long-term time horizon, investors should remain patient with their investments. Each stock is like a story, and it pays to wait for the story to play out. Over time, great companies distance themselves from the competition, and this may not always be evident over a single quarter or even a single year.
  6. Buy in regular intervals. Buying in regular intervals, or dollar cost averaging, can reduce risk for investors. It avoids purchasing at a market high. By buying in regular intervals, investors can buy more shares when the market is down and less when the market is higher. This also avoids the psychological risk of trying to time the market.
  7. Focus on companies with low leverage. Leverage can enhance returns in a strong economy, but it can also damage a company in a downturn. Banks usually have a high degree of leverage. In the financial crisis, companies failed when their asset values dropped. Their leverage ratios were higher than 10 to 1, meaning total liabilities were 10 times their net worth. When asset values fell by more than 10%, the net worth of the companies turned negative.
  8. Buy companies with strong profit margins. A company with strong margins will produce significant earnings that can be reinvested in their business or returned to shareholders. Net margins of over 10% are usually considered strong, but it depends on the industry. High margin industries usually attract competition, so look for businesses that have high barriers to entry as well.
  9. Look for cash flow rather than earnings. Accounting can often mask cash flow, especially in businesses that have high capital investments. Always check a company’s cash flow statement to see how depreciation and amortization are affecting earnings.
  10. Keep learning. It takes quite a while to understand all aspects of company financial statements. The art of finding winning stocks is even more difficult to learn. By starting slow, studying investments over time, and learning what makes companies successful, individual investors can beat the pros.

This post was written by

jason – who has written posts on Budget Clowns.
Father of three and married to a lovely women. Always looking for ways to save money, and invest it properly for my children's future.

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