Stock market investments (2)
By I advise that if the downward trend is caused by actual individual unfavourable conditions (and not general market conditions), it is best to cut one’s losses early, sell the stock and move on. Thousands of shareholders of the banks that failed to recapitalise in the 2005 Consolidation Exercise would now be wishing they had taken the step to sell instead of doing nothing. If in doubt about the significance of the news about a company on its share price, seek professional advice. Sometimes, it’s not just a company that has issues, it might be a whole industry – the same reactions should be applied to the stocks of all the companies in that sector.
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In choosing stock, one must avoid the hype generated by the so called “hottest stocks.” Always do your due diligence and refuse to be coerced by your stockbroker who may have ulterior motives. It is not easy to coerce a person who has an investment plan to buy strange stocks. Your investment plan should indicate, the sectors of the stock market you want to invest in – at least three sectors, in order to diversify portfolio and spread your risks. Then within each sector, invest in at least two companies to broaden the diversification.
I always advise that we avoid borrowing (aka leverage) to buy stocks. When you borrow,interest rate is fixed, repayment date (for principal and interest) is fixed. How then can you borrow for an investment in which the principal invested can be eroded (reduce in value) and a positive return is not guaranteed? Even common sense dictates otherwise.
The market has cycles. We have all heard of “bull run” and “bear market.” The bull run is when the entire stock market and most of the stocks on it are increasing in price and value. The bear market is the opposite. Every bull run is followed by a bear market. It’s the length of each one that determines the overall performance of the stock market at the end of the year. We should always expect these cycles, they are the way in which the market corrects itself. Investment experts advise us to enter when the market is down and leave when the market is up. This is contrary to conventional wisdom, but it is very correct. When the market is down, share prices are generally low and many good stocks are underpriced. That is the time to buy, one would buy at a bargain. To leave when the market is up is to sell when stock prices are generally high. That way one would make a good return on the investment. In buying when prices are down, please note that there’s a big difference between damaged stocks and damaged companies. Damaged stocks are stocks that have low prices, but the underlying companies are doing very well. Damaged companies are stocks whose prices are low because the underlying companies are failing. In a bear market, buy damaged stocks and not damaged companies.
For the beginner, choosing stocks might seem daunting. The solution to that is to invest in mutual funds. A mutual fund is a pool of money collected from many investors for the purpose of investing. The fund can choose only a type of investment e.g. government bonds or company shares, or it can decide to invest in different or all types of investment vehicles. When one buys units of a mutual fund, the responsibility for picking the right shares is transferred to professionals who have investment management training and are up-to-date with happenings in the market. They invest money from the fund in various company shares and pay a dividend annually or one can choose to reinvest the dividend in additional units of the fund. However, these fund managers take a fee for managing your investments, so the cost-benefit must be carefully weighed.
The stock market is a major vehicle for wealth creation and income generation for most investors. Many people have lost a fortune but many more have been enriched by it. As we have always counselled in this column, empower yourself with relevant information, work with the right partners and do your due diligence before, during and after you commit your finances to any investment vehicle. Happy investing.
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