So you’ve begun your journey, learning about the best strategies to invest in the stock market. For a good starting guide, you may find my 3 part, value investing basics series. You can find the first of the three posts, “3 tips for value investing basics” here. Once people begin to learn what the stock market is all about, a common question that follows is when should you buy a stock? What constitutes a good company and when is the best time to buy it? Here’s my take…
What stocks to buy:
Well there’s a fair few factors you must learn to look into before buying a certain stock. All of which I will go into more detail in future posts on the Money Your Concern website. But for now, a good company to buy has some of these similar characteristics…
- A decent market share of and not too much competition. Or a competitive advantage that sets them apart from the other companies in their sector.
- Great future prospects. To be forward thinking and likely to grow their business significantly in the years to come.
- A healthy balance sheet. A good company will have a manageable amount of debt and enough cash to weather any sort of economic adversity that most companies will face at some point.
- Nice profits. A good investment, is in a company that is already profitable, has a proven track record of increasing their revenues and effectively manages their costs.
- Good management. A great company will have an experienced, forward thinking management. Who will be passionate about the company and are willing to invest their own money in the company themselves.
- Fairly valued. A good investment will be in a company that currently isn’t over priced. This will leave room for the share price to grow as other investors begin to see the true value of the company over time.
When should you buy a good stock?
So now we know what a good company to invest in briefly looks like. But when is the best time to buy these shares?
Something really important here to acknowledge is that you should never aim to time the market. Too many times investors speculate over the price of the stock and either miss out on buying opportunities by thinking it will go lower. Alternatively they may buy too expensive because the price is shooting up. Really, just looking at the price of a stock is one of the worst methods you can judge to purchase a stock.
What you really need to do is to look at the company’s valuation. Once you can determine whether the stock you like is of a fair or cheap valuation, then this is a great time to buy a stock, regardless of its recent price movements.
The valuing of a company can be done through looking at a few ratios. I will go into more detail in each of these in future. However, for now, the most commonly used valuation ratios are: The price to earnings ratio (P/E), price to earnings growth ratio (PEG), price to sales ratio (P/S) and the price to book ratio (P/B). There are others but these are the most commonly used.
As a guideline, a cheap valued company at a price for each ratio is as follows…
P/E <15
PEG <1
P/S <2
P/B <1
However, it is important to note that these fair values will vary between sectors and individual companies. So it is therefore important that each value is to be taken with a pinch of salt. You should look at all factors that make the company a good investment to finally make a decision as to whether you should buy the stock.
The general consensus of good, value stock market investing is to buy great stocks at a cheap price.
So you should buy a stock when…
1. The ratio values are lower than the companies historical average levels. Or if they are low, compared to the numbers of similar companies in their sector.
2. The valuation is a little high but if you believe the future profit growth of the company to be high enough to justify paying a higher price for.
Thank you for reading…
I hope you found value from this post. I hope you now have a good idea of when you should buy the stocks you have recently been looking into and feel positive about.
If you have any questions or anything else to add on this topic, let us know in the comments section below and we can get a discussion going.
Would you like to learn more about my investing philosophies and lessons? You may enjoy the contents of the Investing section on this website.
All the best with your investing journey.
Harry
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