Stock Investing For Dummies, 6th Edition
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You're investing in stocks — good for you! To make the most of your money and your choices, educate yourself on how to make stock investments confidently and intelligently, familiarize yourself with the online resources available to help you evaluate stocks, and find ways to protect the money you earn. Also, be sure to do your homework before you invest in any company's stock.

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The 10 most important points about stock investing

If you’re committed to investing in stocks, keep the following points in mind as you make your choices and reap your rewards. After all, stock investing is fun and frightening, sane and crazy-making, complicated and simple — and you may need reminders to stay focused.

  1. You’re not buying a stock; you’re buying a company.

  2. The primary reason you invest in a stock is because the company is making a profit and you want to participate in its long-term success.

  3. If you buy a stock when the company isn’t making a profit, you’re not investing — you’re speculating.

  4. A stock (or stocks in general) should never be 100 percent of your assets.

  5. In some cases (such as a severe bear market, also known as a market with prolonged price declines), stocks aren’t a good investment at all. A bear market, however, may offer buying opportunities for profitable companies.

  6. A stock’s price is dependent on the company, which in turn is dependent on its environment, which includes its customer base, its industry, the general economy, and the political climate.

  7. Your common sense and logic can be just as important in choosing a good stock as the advice of any investment expert.

  8. Always have well-reasoned answers to questions such as “Why are you investing in stocks?” and “Why are you investing in a particular stock?”

  9. If you have no idea about the prospects of a company (and sometimes even if you think you do), use stop-loss orders or trailing stops.

  10. Even if your philosophy is to buy and hold stocks for the long term, continue to monitor your stocks and consider selling them if they’re not appreciating or if general economic conditions have changed.

Checking important company fundamentals before investing in a stock

Don’t underestimate the importance of a little detective work! Before you buy stocks, do some research on the companies you’re thinking of investing in. Pay attention to the following key components when you look at a company’s main financial statements (the income statement and the balance sheet):

  • Earnings: This number should be at least 10 percent higher than the year before.

  • Sales: This number should be higher than the year before.

  • Debt: This number should be lower than or about the same as the year before. It should also be lower than the company’s assets.

  • Equity: This number should be higher than the year before.

Financial measures to consider before investing in a stock

You’re thinking of buying stock in a company, but before you invest your hard-earned money in hopes of a profitable return, check out some financial ratios that can help indicate whether the company is on sound financial footing. Here are key measures to consider:

  • Price-to-earnings ratio (P/E): For large cap stocks, the ratio should be under 20. For all stocks (including growth, small cap, and speculative issues), it shouldn’t exceed 40.

  • Price-to-sales ratio (PSR): The PSR should be as close to 1 as possible.

  • Return on equity (ROE): ROE should be going up by at least 10 percent per year.

  • Earnings growth: Earnings should be at least 10 percent higher than the year before. This rate should be maintained over several years.

  • Debt-to-asset ratio: Debt should be half of assets or less.

A mandatory reading list for stock investors

Before buying stock in a company, you need to do a little light — or not-so-light — reading. Investing in stock without checking out the company beforehand is a recipe for disaster. So before you plunk down your money, be sure to read the following:

  • The company’s annual report

  • The 10K and 10Q reports that the company files with the SEC

  • Standard & Poor’s Stock Reports

  • Value Line Investment Survey

  • The Wall Street Journal and/or Investor’s Business Daily

  • Reputable stock investing websites

Internet resources for stock investing

Reassuring points for nervous stock investors

With how crazy and volatile the world looks sometimes, it’s important to note that prudent investing isn’t just about what you invest in but also how you invest. If you want to build long-term wealth through stock investing and still be able to sleep at night, consider these points:

  • Invest in stocks of profitable companies that sell goods and services that a growing number of people want. Your stocks will zigzag upward.

  • As long as you invest in stocks and exchange-traded funds (ETFs) with human “needs” (rather than “wants”) in mind, your long-term investing success will be more assured.

  • If you keep your money diversified broadly across stocks, ETFs, mutual funds, and hard assets (such as real estate and precious metals) and keep adequate cash in the bank, you’ll be much safer in the long run.

  • Keeping informed every day about your portfolio, the financial markets, and the general economy will keep you from the fear and anxiety that come from the unknown and the surprises that are inevitable.

  • Being aware of investing tools and using them regularly (such as stop-loss orders and put options) gives you more control against the downside and more peace of mind.

  • Keep a tight control on your debt and finances. In turn, this practice will ease the pressure to invest aggressively with a short-term focus and help you focus more on the longer term instead.

About This Article

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About the book author:

Paul Mladjenovic, CFP, is a certified financial planner practitioner, writer, and speaker. He has helped people with financial and business concerns since 1981. He is the author of Stock Investing For Dummies and has accurately forecast many economic events, such as the rise of gold, the decline of the U.S. dollar, and the housing crisis. Learn more at ravingcapitalist.com.

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