Wondering what to look for when buying stock? While some people look at the stock market as almost a game of chance, savvy investors know that they will need to do their due diligence and know what to look for when buying stock to ensure that they are making a sound investment, one that can hopefully be profitable for them in the future. While carefree investing may sometimes pay off with a little bit of luck, this method of investing is usually not sustainable over a long period of time. Most investors will know what to look for when buying shares, such as:
- What the company does
- Whether or not they make a profit
- Their earnings history and future outlook
- The value of the company’s stock
- How they stack up against the competition
- Their leadership
- The strength of their balance sheet
- Their 10-Ks and 10-Qs
- The presence of red flags
- If their position is sustainable
- Their price-to-earnings ratio
- Their share buyback
- Their company profits
What You Need to Know About Stocks
While knowing what to look for when investing in stocks doesn’t always guarantee a win, it can help you develop a stronger foundation that will hopefully be rewarding in the future. So are you looking to know how to determine a good stock to buy? Check out some of the questions you should ask and answer before making a decision.
What Functions Does the Company Perform?
One of the best ways to evaluate stock is by starting with what the company does. Knowing what services the company performs or products they provide is critical in determining whether or not it might be a profitable investment opportunity. It will be hard to compare it against competitive companies if you are not sure who their direct competitors would be. Start with their website and look for them in other professional journals and publications.
Does the Company Make a Profit?
Face it. You are learning all you need to know about stock trading so that you can make money and grow your wealth. This means finding companies that are currently profitable or expected to be profitable to help ensure your money grows the way it should. You can find this information by researching the company’s quarterly reports and annual earnings to determine both their net income reported and their per-share earnings.
What Is the Outlook of the Company and its Earnings History?
A couple of good places to start for this research are news articles and the company’s previous quarterly statements. What you want to look for is steady growth. If the earnings fluctuate widely and don’t seem to follow a seasonal pattern, then it may be too risky. Also, take into consideration how they are projected to perform in the future. This can be especially necessary for young startups or tech companies. They may not have a steady increase in earnings quarter after quarter but may have some strong and promising things in the works that could lead to a favorable outcome.
What Is the Company’s Stock Valued At?
While you want to research a company’s earnings yourself to see if there is the consistency you are looking for, you also need to see how the market values the company by seeing what their stock is valued at. Price-to-earnings, price-to-sales, and other metrics are used to determine the value of a company, and both reflect its past and expected future growth.
Check Out the Competition
No company is the only player in the game, and part of the things to consider when buying stocks is the competition. Competitors are constantly trying to take business from other companies to gain a greater share of the market, so it is crucial to know where your company lands in the scheme of things. Does the company you’re researching have the biggest share of the market they are in? Are they perhaps a growing player in a competitive industry? You will also want to look at the industry as a whole to determine if one player controls most of the market share and the others, only a fractional amount. These are things to consider when trying to determine whether the stock you plan to invest in has the ability to be profitable.
Who Is Responsible for Running the Company?
Even though it is unlikely that you can visit the company itself and secure an audience with those in upper management, it is still possible to research the company’s leadership as a factor in your decision. Most companies that pride themselves on being competitive in the market will have information on their senior management, including their background and how long they have been helping to run the company. Most of this information is available on websites or even professional media sites such as LinkedIn. You may find that a constant turnover in management to be a sign of company instability, and it may make you more wary about investing your money with them. You also should extend your research to articles available about the company executives, which can often be found in trade publications.
How Does the Company’s Balance Sheet Look?
If you are serious about investing, you should be able to clearly read and understand a company’s balance sheet, which is available for review with a publicly traded company. Some things that you want to check for include having a large amount of debt and less in earnings, which could indicate the possibility that they are overextended. Another critical component of their balance sheet you will want to observe is their inventory levels and the amount of money that they invest in research and development. Typically when these levels begin to rise, it is an indication that the business has begun to slow down.
Read the Company’s 10-K and 10-Q Annual Reports
Every company that is traded is required by law to file a 10-K report with the Securities and Exchange Commission. This report is significantly more detailed and in-depth than annual reports and allows you a more accurate view of their earnings each season. The 10-Q is a similarly detailed report that shows the quarterly earnings.
Look for Possible Red Flags
When you are learning how to figure out if a stock is worth buying, you will need to not only look for the positives but also the possible negatives to truly get an accurate picture. There are many red flags that should raise concerns for a potential investor. A good place to start with your red flag check is the 10-Q and 10-K filings. Look for things that seem off in their detailed risk factors that could undermine their prospects. When looking at the accounting practices explanations and operating assumptions on depreciation rates on assets and assumed rate of growth for pensions, look for indications that the company is acting aggressively.
Determine if the Company’s Position is Sustainable
If you determine that the company is a leader among its competitors, ask yourself if they are poised to maintain this position. Some companies can soar to the top with a great product or idea, but if the company does not continue to move forward or innovate, it may not be able to sustain its position for too long. Remember, you are in it for the long-term, so you want to ensure that the company can maintain or move past its position before investing.
Consider Their Market Capitalization
The market capitalization is the total value of the company based on the shares that it currently has out in public. The calculation is easy to determine. All you need to do is multiply the total number of outstanding shares by the current price that the stock is trading at. If a company was to have issued 3 million shares and they have a current value of $15 per share, the market capitalization would be $45 million. This calculation can help you make the determination if the company is being over or undervalued based on their assets and income.
Look at the Price-to-Earnings Ratio
A common indicator used when trying to learn everything you need to know about investing in stock is learning how to calculate the price-to-earnings ratio. The P/E is calculated by taking the share price of a stock and dividing it by the annual net income per share. If the stock has a higher ratio, it will be more expensive. If the ratio is lower, then the stock price is cheaper
Investigate the Share Buyback
When focusing on the ins and outs of stock trading, the share buyback can be a strong indicator of the strength of a company. If you find a company that regularly buys back shares of its own stock, it means that they are creating even larger returns for their investors by reducing the total number of shares available on the open market. Look for companies that do this and how often the buyback occurs. Those with high buyback rates can make extremely sound investments.
Knowing what to look for when buying stock can help you make better, well-informed decisions about which companies to invest in that can provide you with a better chance of growing your wealth and preparing for your financial future. Want to gain even more tools to be a more successful investor? Check out our free e-book or sign up for our webinar.