When we start our investment journey, it is difficult to choose which strategy to employ to get the best results. We spend countless hours looking for the best options and investments to make, with very little advancement sometimes.
In the end, we all have the same goal in mind, to achieve financial freedom. There are so many opportunities and possible stocks, in which to invest, that it becomes increasingly difficult to choose the best ones. One strategy that has worked for over 100 years is value investing. Value investing may seem difficult to most of our readers, but in fact, it is fairly simple. The idea of buying something for less than it is worth is the surest way to have the best returns in the market. Something cheap is not always the best choice or the best investment. Just because a stock is trading at a low valuation, does not necessarily mean that it is a valuable investment, or that it will produce the kind of returns that investors are looking for.
Start Looking In Your Industry
Valuing stocks is not an easy task. Companies are so widely differentiated by so many factors that there isn’t a simple recipe that you can follow that will work for every single stock. For that reason, focusing on companies and sectors that you are familiar with is the best way to start. You probably have a job in an industry that you have far more knowledge about than some guy in a Wall Street office. Start there, with what you know, and what you are good at. This principle was first highlighted by Peter Lynch, who advised investors to look for companies that are related to their everyday jobs.
This is most definitely the place to start, you will probably know the companies in the sector, and have a deep knowledge of the services and products they offer. You will also be able to easily spot trends and changes in the industry that could impact the companies in it. Although this kind of approach is not a sure way to get good investment ideas, it is certainly the easiest way to start.
Do The Math
Once you have selected a few stocks in the industry that you are most familiar with, it’s time now to start making some calculations. Look through the company’s financial reports, and see how the numbers match with your view of the company. It does not require very advanced analytical skills to be able to identify a great investment opportunity. All you will need to look for are qualitative attributes that you can pinpoint. Look at how consistent the results are, their profit margins, their expenses, and the amount of profits the company is generating. These are the key areas to focus on. It will give you a brief idea of what the company will be able to achieve over the long-term and consider the investment.
Not everything is positive, and as an investor you will have to look at the negatives also. Considering what might go wrong with your investment thesis is another key step. Perhaps the most important step, as this allows you to understand, under what scenarios will you actually lose money. Losing money is never fun, and as an investor you have to be prepared to see the value of your holdings decline. This is why trying to mitigate any losses could be an easy way to avoid bad investments and value traps.
Put Everything In Perspective
Once you have analyzed the good and the bad about a certain stock, you have to put things in perspective. This can also be tricky, but it is perhaps the best exercise for investors looking to study their cost of opportunity. When you choose an investment, you are essentially not choosing a thousand other ways to invest your money. How you compare them is usually the key, to choose the best among all of the possibilities. This is why value investors usually get lost, because of the overwhelming number of possibilities. Think which of these companies will be around for many years, or for how long can they keep growing. Emphasis on the risks is perhaps the most important part of this process. Some companies are usually very well positioned to deliver great returns to shareholders, but some of them are more often than not very risky. Ponder what could go wrong and how you would lose money, if any of the basis for your investment thesis changes overtime.
Avoiding losses is a key step to making good returns. Money lost had a devastating effect on your investment confidence and your returns over time. It impairs the ability to compound. With this in mind value, investors should avoid risky investments even if the returns could outweigh the potential losses. As a value investor, you cannot solely focus on the valuation of the company. Sometimes a company selling at a higher valuation will be a better option, than the beaten down the company that might not return to its former glory.
Author bio: Value of Stocks is an independent financial information provider. Focused on analyzing stocks with a value investing approach. Our main goal is to help investors make better investment decisions.