Essential Tips for Investing in Stocks
If you invest in stocks I will give you some tips that will help you invest better. It is true that there are many more, but today I bring you these three fundamentals.When I started investing in stocks I had many doubts. Not only about what stocks to buy, but also about the learning process that he was going through.
Today I see it much clearer, but I have had very hard moments in which I did not see improvements. And do you know why? Because I was confused. I believed that what would make me earn money would be to study every detail of each of my investments , but nothing could be further from the truth.
And, to be successful when investing in the stock market , it is very important to simplify. Investments are already complex enough that we make them even more complicated.
In this order of ideas, I will tell you three tips that will allow you to simplify your investment process and start investing with more security.
But first, remember that in order to start investing, the first thing you have to do is open an account with a broker. It is important to make sure it is a regulated broker, among other things. See guide to choosing a good broker.
1. Do not invest in what you do not understand
That's solid advice! It's often attributed to Warren Buffett. The idea is that you should fully understand an investment—how it works, the risks involved, and the factors that can affect its performance—before committing your money. This helps reduce the likelihood of making decisions based on speculation or trends you don't fully grasp, which can be risky. It's about being informed, making rational decisions, and avoiding emotional or impulsive choices in the world of investing. The first advice that I will give you when you go to invest in the stock market is very easy to carry out: do not invest in those that you do not understand.
The above is related to your circle of competence . And what does that mean about the circle of competence? Well, most likely there will be companies or sectors about which you have more knowledge.
For example, if you work as a fiber optic installer for an internet operator or you are a mobile lines salesperson, you probably have more knowledge about the telecommunications sector than someone who works as a civil engineer.
It may also happen that your hobby is researching renewable energy topics and that it is a topic that you enjoy reading. In that case, it will be a good idea to be interested in companies in this sector. Not only because you will understand the business better, but because you will start from a prior knowledge that will make the analysis process easier.
If you don't do this, you will get frustrated. For example, imagine that we do not even know what uranium is and we are going to invest in a company that is dedicated to the extraction of this chemical. Also, learning about it bores us.
The consequence will be that we will leave the analysis halfway. And if we decide to invest, we will be doing it with incomplete information.
Therefore, do not forget this first tip. Invest in what you understand. If you don't understand it, you will get more nervous when things don't go well and you will end up losing all your money.
2. Annual reports are like a beauty salon
The annual reports of the companies are public, so everyone can download and read them. In them you will find a good part of the relevant information of the company. For example, how much you earn, how much you spend, and what you are investing in.
But I'll tell you what, after reading hundreds of annual reports, I have come to the conclusion that there is no company that speaks ill of itself.
That is why you must learn to read between the lines and go beyond accounting . Annual reports and accounting always hide secrets, so relying on them blindly is usually not a smart choice.
To remedy this, ask customers about the products or services the company sells, go to job search pages to see what opinions the employees have, or even buy their product.
For example, if you decide to buy Netflix shares, in addition to analyzing their accounts and their future plans, it will be interesting for you to comment with friends, family or on social networks, if they are happy with the platform.
That's an interesting analogy! Just like a beauty salon can present a polished version of someone's appearance, annual reports often aim to present a company's performance in the best possible light. While annual reports are crucial for investors to understand a company's financial health, they can sometimes highlight strengths and downplay weaknesses.
It's important for investors to look beyond the surface—digging into the details, such as footnotes, cash flow statements, or management discussions, to get a clearer, more accurate picture of the company's actual condition. On a lot of occasions, you will realize things that you will never read in an annual report.
3. Create a system
I would need a book to tell you all the mistakes I have made by not having an investment system. And what is an investment system? A series of rules or criteria created by you that you must follow when investing in stocks.
To make it easier, I will give you several examples of rules that you could include in your investment system:
Do not buy shares of companies with a capitalization of less than 500 million dollars : The reason why we could establish this rule is that a company that capitalizes 500 million dollars is very small. Although it does not necessarily have to be this way, it is likely that the shares of this company are less liquid than the shares of Facebook. And, therefore, that when it comes to wanting to sell them, we cannot or have to accept a less advantageous price. Additionally, companies with lower capitalization are more exposed to volatility.
Buy only companies that have benefits : If you are starting, it will seem incredible that a company that does not generate profits can go up in the stock market, but it is. For example, Uber, the famous taxi company that has put the industry in check, had losses in 2020 and still its shares rose from $ 30 to $ 50 a share. Investors expect Uber to make a lot of money in the future and so they are willing to bear the losses for several years. However, we as investors may not want to take that risk and stay away from these types of companies.
Avoid investments in countries whose currency is very unstable : Another reason why it would make sense not to invest in shares of a certain company would be the currency in which it operates. For example, let's imagine that we buy shares in a company that sells in a country with high inflation . It could happen that everything we have gained, we lose due to the depreciation of the exchange rate . Although there are ways to hedge the currency, we will not go into that now.
As you may have seen, the examples of criteria that I have taught you have a negative meaning. That is, they focus more on what to avoid than what to buy.
The reason I do this is because I greatly admire and respect Warren Buffett, one of the best investors in history. Among his many investment tips, one of the ones I like the most says something like the following:
An investor needs to do very little right if he avoids big mistakes. You don't have to do extraordinary things to get extraordinary results.
Warren buffett
Despite this, I want you to be clear that your investments are your sole responsibility. What do I want to tell you with this? That you listen to the advice of great investors, but make the decision that you think will be best for you.
No two investors are the same in the world. Each of us has different ideas and goals. And therefore it is very likely that we have different investment rules.
To do this, train yourself, read a lot and, over time, you will be able to create your own investment system. And don't worry about the details. The important thing is to start. With caution, but start.
There is no perfect investment system, so assume it is a matter of probability. In fact, it is certain that your first investment system will not be the same as the one you will have in 10 years.
Sometimes you will fail and other times you will be right. But that's what it is all about, to tip the balance in our favor.
Creating an investment system involves developing a structured approach to managing your portfolio, making decisions based on clear principles and rules. Here's a step-by-step guide to building a robust investment system:
1. Define Investment Goals
Short-Term Goals: Examples include saving for a vacation, buying a car, or building an emergency fund.
Long-Term Goals: Retirement, buying property, or saving for a child's education.
Define a clear time horizon and how much money you’ll need for each goal.
2. Assess Risk Tolerance
Risk Appetite: How much risk are you willing to take? Factors include age, income stability, and emotional comfort with market fluctuations.
Tools like questionnaires or consulting a financial advisor can help quantify your risk tolerance (e.g., conservative, moderate, or aggressive).
3. Determine Asset Allocation
Equities: Higher-risk, higher-reward investments. Good for long-term growth.
Bonds: Lower-risk, income-generating investments. Suitable for risk mitigation.
Real Estate/Alternative Investments: Hedge against inflation and diversify risk.
Cash/Fixed Deposits: For liquidity and safety. Allocate based on your risk tolerance and goals. For example, younger investors with a higher risk tolerance might allocate 80% to equities and 20% to bonds, while a more conservative investor nearing retirement might allocate 50% to bonds.
4. Develop an Investment Strategy
Value Investing: Look for undervalued companies with strong fundamentals (e.g., Warren Buffett's approach).
Growth Investing: Focus on companies with strong growth potential, even if they are more expensive.
Income Investing: Invest in dividend-paying stocks, bonds, or REITs to generate steady income.
Indexing/Passive Investing: Invest in index funds or ETFs to replicate the performance of a market index.
Momentum Investing: Capitalize on trends by buying stocks that are rising and selling those in decline.
5. Set Investment Rules
Entry Rules: Define criteria for when you will invest in a stock, bond, or other asset (e.g., price-to-earnings ratio, growth rate, technical signals).
Exit Rules: Decide in advance when to sell. This could be when a stock reaches a target price, falls below a certain level, or if the fundamentals change.
Rebalancing: Regularly review and adjust your portfolio to stay aligned with your target asset allocation.
6. Diversify Your Portfolio
Avoid putting all your money in one stock, sector, or asset class. Diversification helps spread risk and improve stability.
Geographical Diversification: Include both domestic and international investments to reduce country-specific risk.
Sector Diversification: Invest across sectors like technology, healthcare, consumer goods, etc.
7. Risk Management
Stop-Loss Orders: Set predefined levels at which you'll sell to limit losses.
Position Sizing: Don’t invest too much of your portfolio in any single asset. For example, limit any position to 5-10% of your total portfolio.
Hedging: Use options, futures, or alternative investments to protect against potential downside risk.
8. Automate Where Possible
Dollar-Cost Averaging (DCA): Invest a fixed amount of money at regular intervals, regardless of market conditions. This reduces the impact of market volatility.
Robo-Advisors: Automate portfolio management based on your risk tolerance, goals, and time horizon. Tools like Wealthfront or Betterment can handle diversification, rebalancing, and tax-loss harvesting.
9. Monitor and Adjust
Performance Tracking: Regularly monitor your portfolio performance. Compare it to your benchmarks (e.g., S&P 500, bond indices).
Review Quarterly/Annually: Adjust based on market conditions or life changes (e.g., marriage, job loss, etc.). Ensure your portfolio remains aligned with your goals.
10. Stay Educated
Continuously improve your understanding of financial markets, asset classes, and new investment opportunities.
Read books, follow news, and consider online courses on personal finance and investing.
11. Consider Tax Efficiency
Tax-Advantaged Accounts: Make use of tax-saving investment vehicles (e.g., IRAs, 401(k)s in the U.S., or PPF/ELSS in India).
Tax-Loss Harvesting: Sell losing investments to offset capital gains taxes on profitable investments.
Example of an Investment System
Asset Allocation: 70% Equities, 20% Bonds, 10% Cash
Equities:
50% in large-cap stocks (e.g., index funds or blue-chip companies).
20% in international stocks for global diversification.
Bonds:
10% in government bonds.
10% in corporate bonds or bond funds.
Cash:
5% in a high-interest savings account.
5% in short-term fixed deposits.
Entry Rules:
Invest in companies with a P/E ratio below 15 and consistent earnings growth of 10% over the last 5 years.
Invest only in companies with a dividend yield of 3% or higher for income stocks.
Exit Rules:
Sell a stock if the P/E ratio exceeds 30.
Exit if the company’s earnings growth turns negative for 2 consecutive quarters.
Tools and Resources
Brokerage Platforms: For execution (e.g., TD Ameritrade, Zerodha, Interactive Brokers).
Research Platforms: For screening stocks and analyzing data (e.g., Morningstar, Yahoo Finance, Screener.in).
Financial News: Follow Bloomberg, CNBC, Economic Times, etc.
Hopefully these tips help you put the scales on the winning side.
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