How to make money in stocks? When thinking of making money in stocks, forget whatever you’ve heard about stocks. Surprised? Well, if the phrases you’ve heard go like this: I made $400 overnight with just $4; Stocks are easy! Just go with the flow and wait for the “market” to do its magic- then yes! Time to do some fact check.
The thing with the stock market is that no one knows how the events take their turn. Yet, as always, persistence and consistency is the key. The majority of people who invest in stocks get disheartened by the ups and downs in stock performance.
But, the key to making money in the stock market is speculation. Ever heard of the concepts- Time value of money and compounding? Before getting into the technical terms, let us understand what are these stocks all about.
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What are stocks?
Stocks are nothing but shares in the ownership of the company. Whenever an individual buy a share (stock) of a particular company, it means they hold a small portion of ownership in that public corporation.
But why do companies extend ownership to the public? Let’s say a company is planning to venture into a new domain and needs funds. The company already has a good turnover of around some millions of dollars, but they want to go public for further expansion. So, the company decides to get listed on the stock exchange and sell shares for amassing the necessary funds.
The company makes its initial public offering (IPO), through which the public can buy shares of the company at the initial price. On buying the shares of the company, people who bought the shares (shareholders) become the part-owner of the company.
Based on the turnover, leadership changes, and other factors, shareholders can decide whether to hold the share or to sell them at any given time. Whenever the value of the company rises, the value of shareholder investment rises. This transaction of shares happens in a regulated system called the stock market.
How do Stocks work?
In simple terms, stocks are nothing but an investment in a company. Shareholders who own the stocks can earn a return on their investments at periodic intervals. Owning shares in a company primarily gives you returns of two types:
- Stock performance
Whenever a company’s performance goes good the stock price rises, which is a rise in your investment. If you wish to sell the stock for a profit: you can either sell all the shares at once or hold some shares and sell some shares. It all depends on the kind of risk you are willing to take and your portfolio performance.
- Dividends
A dividend is a part of the profit gained by the company for the financial year. When a company earns a profit, it will pay a proportion of the profit in the form of a dividend to its shareholders every quarter. However, not all companies distribute dividends. Some companies reinvest the dividend in the form of retained earnings.
Generally, the majority of the investors own common stock- the shares that give voting rights and dividend share. However, owning shares of any company doesn’t mean they own the company and its assets. Neither do they have any decision-making power nor a say in internal matters.
All they own is a share in profit (and of course, bear the brunt of loss too). In fact, the whole goal of investments is to maximize the wealth of investors.
As the value of a company’s stock rises, so does the wealth of investors. But to make money in stocks, we need to be willing to take some risk of uncertainty. Although stocks are gateways to high returns, volatility is the major risk factor.
Stock prices always fluctuate based on many factors. From over-all market fluctuations to company-related events, a variety of reasons contribute to market volatility. Yet, long-term investors hold on to stocks for years together and make sure that their portfolio’s value rise.
How to Invest and make money in Stocks
Beginners may find it confusing to invest in the stock market amid the constant fluctuations. It is true that one needs to keep an eye on stock performance and market performance.
For long-term investors, investment in stocks even during market fluctuations eventually results in good returns. Market volatility is often daunting. Yet, the stock market downturn means there are many shares for sale.
With patience, technique, and speculation- eventually one can make a good fortune in the stock market.
For beginners, the best way to get started is to create a brokerage account. A brokerage account is just like a bank account where an investor can deposit money with a licensed brokerage firm.
The brokerage firm places trades on behalf of the investor and executes the order. Although it is the brokerage firm that takes care of your transaction, the brokers do not own your assets.
With a brokerage, investors can be assured about diversification and make informed decisions regarding investments. Once deciding how to proceed with the brokerage account, there are some aspects that you need to be sure about. The investor must be clear about whether to invest in stock mutual funds or individual stocks.
Stock mutual funds:
Mutual funds are the most popular choices among investors who have a lesser risk appetite. This investment channel lets investors pool their money in different securities like derivatives, futures, equities, and so on.
Diversification helps investors plan their investments by assessing the risks pertaining to uncertainty. Many brokerage firms recommend mutual funds for beginners who are looking for low-risk investment options.
Individual stocks
If you prefer holding on to a specific company’s shares rather than diversifying the portfolio, you can buy individual shares of selected companies and manage your portfolio. However, you also have the option to diversify the portfolio by pooling individual shares of two or three selected companies- but it takes a higher investment in this case.
Unlike mutual funds, individual stocks are not diversified inherently. The odds of single stock giving handsome returns is less when compared to that of mutual funds. With mutual funds, you have a lesser risk factor as even in cases when the share prices of some stocks fall, there are other securities that balance the risk.
Here are some important pointers to keep in mind before starting to invest:
- The prices of shares range from just a few dollars to a thousand dollars. It is crucial to set your investment budget aside as the investment pattern depends upon how expensive the shares are.
- Plan your investments in a long-term lens. For maintaining a diverse portfolio, allocate your budget into parts. If you are a young investor, allocate 80% of your budget to mutual funds and the rest 20% to individual stocks.
- Unlike what many investors believe, the performance of the stock market depends on shareholder behaviour. The investment patterns are largely influenced by the stock’s previous performance and
- Many investors have strategies- largely derived from their own experiences or learnt from others’ experience or books. Before investing in any stocks, one needs to assess: the stock’s previous performance, the industry to which the company belongs, recent announcements from the Government that might partially or completely influence the growth of the sector, leadership changes, and other factors.
- After buying any stock, it is better to sit back and observe the stock behaviour than making impulsive decisions based on the fluctuations.
- Avoid checking the stock performance compulsively. It is good to keep a tab on how your stocks are doing, but making decisions based on each fluctuation within a day does more harm than good in the long run.
How to Research about Stocks
Researching stocks and making informed decisions is the first step to ensure a sustainable portfolio. The kind of research required for making investment decisions involves comprehensive-research based on many factors.
Fundamental analysis is the first step in stock research. An investor needs to know about the financials of the company, leadership, brand outreach, etc for evaluating the stock.
Stocks are generally considered as long-term investment options because of the risk associated with them. The risks that we are talking about here are nothing but market fluctuations. If you are looking for short-term gains, investment in mutual funds might not be an ideal option.
The gains that mutual funds yield are based on compounding. The value of your investment will rise only with time and stock performance. For holding on to the stocks for a long time, investors need to analyze company history. To make money in stocks, investors should stick to the fundamental rules of investing. Here are the ways investors research stocks
Company history
Your research should start by reviewing the company’s financials and business model. The quarterly and annual performances of the company give you the required information about how a company is progressing and, way forward. The audited financial statements help you get an idea about the company’s sources of income, revenue models, and financial performance over the year or quarter.
Earnings per share
Earnings per share are one of the important metrics that indicates the profitability of the company. It is a result that’s calculated by dividing the total amount of profit gained during a period of time, by the number of shares that the company has listed on the stock market. EPS is a metric to understand a company’s profitability on a per-share basis. Although some companies reinvest the earnings in the business or payout in the form of dividends to their shareholders, it is a good metric to estimate the financial performance of the company.
Return on Equity and Return on Assets
Return on equity is a metric that gives the investor an idea about how much profit is a company making relative to its total amount of shareholder equity. This is one of the important metrics that investors use to measure both profits as well as efficiency. A well-performing return on equity suggests that a company is making good profits without investing much capital and how well it is utilizing shareholder capital.
Return on assets is just like return on equity that measures financial performance. ROA is a metric that gives the investor an idea about how much profit is a company generating relative to its total amount of assets. A high return on assets signifies how efficiently is the management utilizing investments to get a good return on assets.
Price per earnings ratio
Simply put, the price per earnings ratio helps investors in comparing a company’s current share price to its earning per share. It is a valuation method used by analysts to understand if a company’s stock is overvalued. A high price per earnings ratio denotes that the company is overvalued, which further denotes that the investors are expecting higher growth rates in the long run.
Revenue
Revenue is the amount of money that a company made during a period of time. It is of two types: Operating revenue and non-operating revenue. Operating revenue is the important criterion that an investor needs to consider as it is the inflow of money made by the core business activities.
On the other hand, non-operating revenue is the inflow of money that happened during one-time business activity. Revenue is the crucial factor while assessing the financial performance of a company as it is the only metric that keeps the business operations in-place.
Wrapping up
Though there are a lot of investors who made it big in the stock market, budding investors need to understand that the path is not so easy as it seems. With market fluctuations dominating the space most of the times, patience and discipline always reward.
The people who made it big in the stock markets know the fact that emotional thinking is always a big no-no while taking investment decisions.
Although there is no clear strategy that is fool-proof, traditional traders and even modern-day investors vouch for the compounding principle and diversification. In this article, we have mentioned some basic and mostly-advised tips to make good money in stocks.
The first step to making it big is to stay informed. Make informed decisions and make it big!
