things to know
an overview of the most important points of investing in stocks.
1. The stock market may not always
seem rational, but itís usually right in the long haul.
Over the short term, the market
moves based on enthusiasm, fear, rumor and news. Over the long term, though,
it is mainly earnings that determine whether a stockís price will go up,
down or sideways.
2. Individual stocks are not the
A good stock may go up even when
the market is going down, while a stinker can go down even when the market
3. Prices are set by where a company
appears to be going, not where itís been.
Investors buy stocks with the expectation
that theyíll be able to sell them for higher prices at some time in the
future. That means they expect that earnings will likewise grow. And if
they donít, the best past performance in the world isnít going to help.
4. A stockís underlying value
is not always reflected in its price.
Because investors judge a stock
based on its probable future profits, a $100 stock can be viewed as cheap
if the companyís prospects are bright, while a $2 stock can be expensive
if its prospects are dim.
5. A little homework can go a
You can often get a sense of whether
a stock is over- or undervalued by comparing its specific performance ratios,
like price-to-earnings, debt-to-equity, price-to-sales and return on equity,
to those of other companies in the same industry or to the market as a
6. A quick way to judge whether
a stock is expensive or cheap is to compare its P/E ratio to its projected
The Wall Street analysts who track
stocks specialize, among other things, in predicting how fast a companyís
earnings will grow. By matching predicted five-year growth rates with price/earnings
ratio (based on estimates for the year ahead), you can get an idea whether
the stock is overvalued or undervalued: If the P/E is greater than the
projected growth rate, the stock is pricey; if it's below it, the stock
7. Don't ignore dividends.
During a bull market like the one
of the mid-1990s, investors sometimes sniff at dividends -- the small share
of profits that some companies distribute to their shareholders one or
more times a year. But when the market slows, dividends carry more of the
load. Case in point: Between 1926 and 1997, reinvested dividends produced
nearly half of the marketís 10.9 percent average annual gain.
8. The Internet has become the
best source of free information on stocks.
Thanks to a proliferation of financial
data on the 'net, the average person today can tap into information that
would have been available only to investment professionals 10 years ago
-- and much of it is free.
9. Borrowing money to buy stocks
can increase your reward -- or your loss.
Brokerages will typically lend up
to 50 percent of the value of the stocks you already own free and clear
towards the purchase of new shares, either in those or in other companies.
This is known as "buying on margin." It can goose your returns if you bet
right, and hurt you badly if you don't.
10. It's smarter to buy and hold
good stocks than to engage in rapid-fire trading.
Retail investors pay commissions
and fees that total an average of 6 percent for one round-trip trade --
that is, to buy and sell the same shares of stock. So if you trade frequently
for small gains, the cost of those trades can erode -- or even erase --
your profit on the transactions.
Source: Money 101
© 2000 Time Inc. New Media.