6 things to look for before buying a stock!
Taking your money and buying different securities out there may seem easy but it can be riskier if you don't know what you are doing. It is difficult to be a successful investor and most people lose some money because of a variety of reasons. If you don't do enough research about what you are buying, you'll end up making losses. That's the bad news but the good news is that you can cut down the losses as well as the amount of research you need to do by looking at some key factors that show how well the company is performing and if the stock is worth buying. so, here are the things to look for before buying a stock.
"Study the business not the stock price"
What do they do to make money
By buying a stock you become a partial owner of the business so, investors should never purchase a stock unless they have a good knowledge of how do the company makes money. What do they manufacture? What kind of service do they offer? In what countries do they operate? How good is the management? you must research and cross the stocks which you have a red flag for.
MOAT or competitive advantage
A company with high economic MOAT has a robust advantage over its competitors and has the potential to grow rapidly, earn high profits, keeps on enhancing its economic footprint, and is rewarding its shareholders. For example, Coca-Cola has incredibly high MOAT because of its brand value and scale. Coca-Cola just crushed its competitors and it has survived these many decades with a good profit margin. On the other hand, a company with a low MOAT value if it has more competitors, their profits get eaten up by competitors, and losses their market share and investors who invested in the company might make loss. That's why you should buy stocks with high MOAT value or with a unique competitive advantage.
A good business generates more cash than what it consumes to produce that cash. Good management keeps finding ways to use that cash productively. so the company grows in the value despite what the stock market does and of course, there might be small turbulence sometimes. Here are the financial ratios which you should lock for to know the financial strength of a business.
-Working capital ratio the working capital ratio shows us the ability of the company to pay off its debts(liabilities) using its current assets, it is calculated by[ total current assets / total current liabilities]. if the company has more current liabilities than its current assets then the is going to have a hard time paying off its debts and might go bankrupt and vice-versa the company will easily pay off its debts.
-Earnings per share (EPS) EPS measures the profitability of a company on a per-share basis. The higher the earnings per share of a company, the better is its profitability per share.
-Price per earnings ratio(P/E) The P/E ratio shows us how much a market participant is ready to pay for the stock, for every rupee of profit that the company generates. For example, if the P/E of a certain firm is 15, then it simply means that for every unit of profit the company earns, the market participants are willing to pay 15 times. Higher the P/E, more expensive is the stock, and stock is considered to be undervalued when its price is low relative to the amount of money the company. P/E ratio doesn't tell the whole story sometimes buying a stock with a high P/E ratio might worth it, then buying its competitor with a low P/E ratio. The P/E ratio is calculated by [share price/earnings per share (EPS)].
"It's far better to buy a wonderful company at a fair price than a fair company at a wonderful price." - Warren Buffet
Well, there are many other financial ratios to evaluate a company's financial strength, which helps you to make a wise decision and we will save those for another article so, stay tuned!