In a previous article I discussed the common mistakes made in retirements and the difference in a trade versus an investment. Let’s talk about the most common question I get. “What should I buy and when should I buy it?” Okay, technically speaking, it’s two questions; but stay with me though. The answer for you is different than the answer for me. You need to ask yourself questions before deciding the answers. I can speak for what is right for me and what I look for.
How do I find the companies I want to INVEST IN?
INCOME – It has to generate income for me. Whether it is a bond with interest or a stock with dividends, I need something that adds income for me. I am about simplification and because I deal with people not in the industry, I keep it simplistic for people who may not know. When I look at an investment, one of the things I look for is the yield. The yield is the income return you are getting. I like finding an investment that pays me above 5% typically.
How do you get the yield? You take the total income for the year (dividends for stocks and interest payments for bonds) divided by the price you bought it at. So if the stock pays quarterly dividend of $.25 and the stock price is $20.00, then the yield is $1 ( 4 * $.25) / $20 or 5%. In my opinion, the yield is important to an investment. You want the income generation for making more money.
STABILITY – I look at the history of the dividend to make sure the company has not lowered it during periods of financial challenges. I also look for the historical prices. If you have a good idea what the company did, price wise, during rough financial times versus what they did during good finance times, you can gauge the best case versus worst case scenario. If a company is at $30.00, but went to $18.00 during worst times and didn’t lower it’s dividend, you could see the stability of the company is quite good. Stability of the company is also measured in its profit and earnings. If during its roughest times, it still finds a way to be profitable, that adds to the stability in my opinion.
ENTRY POINT – What is a good entry point? Well, as a rule of thumb, you never want to buy at the top. Not only does this increase chances of going down (nothing goes up forever), but it lowers your yield. Example: A stock with $1.00 dividend and $10.00 share price is yielding 10%. If the company’s stock price goes up to $20.00 with a remaining $1.00 dividend, the yield is now 5%. So you want to find a decent entry point, with a decent yield at the time. If you find a good company, with a good yield, and an okay entry point then enter it. Some time you have to also know when to walk away and wait for another investment at another time.
Another thing to keep in mind in reference to entry point is the something called averaging down. This means that you bought at one price, the stock goes down, but you think the company is a good company and thus buy more at the lower price. What it does is lower your per share average cost. If you bought a 100 shares at $10.00, with a $1.00 dividend, then you spent $1,000. The yield is 10% on that stock. If the company goes down to $8.00 a share and you decide to buy 100 more, then you spend $1,800 for 200 shares. This averages down your average share price to $9.00. The yield of the investment has risen in turn. $1.00 dividend / $9.00 share price = 11.11% yield.
SECTOR – Try to look into the future. Look for a company that is in a sector that we will always need. We will always need soap, food, defense, entertainment, etc. If you find companies that have weathered good times and bad times and continue to provide value in a sector that people always will need, then you are more apt to find a long-term profitable company.
It has to weather storms though. Look at the airlines and automotive companies for an example of companies that everybody needs, but didn’t handle down turns very well. It’s not to say just because they failed yesterday means they will fail tomorrow; or that, just because they haven’t failed in the past means they never will fail in the future. It’s simply a guide and/or a path.
Well how do I know what to buy when I am trading stocks Derrick? Well traders have different tools they use to know when to get in and out of a company. There is technical trading, there is fundamental trading, there is algorithmic trading. I will keep it simplistic for the usage of this blog.
HAVE EXIT POINTS AND STICK TO THEM – Whether you are seeing a “head and shoulders”, “a flag”, or other trading pattern, you have to have sell points for both the upside and downside. These should be clear in idea and should be set in stone. If your downside is 5%, stick to it. Don’t let it go down to the exit point, only to talk yourself into a new point. You had the original exit point for a reason, so stick with it. This goes to the top side as well. A profit is not a profit until it is cashed in.