How to pick good stocks

Stock market investments are prone to risk. Investors at times invest in the market based on broker recommendations, research report, tips from friends or family, rumours, trend or by gut feel. Identifying and investing in good stocks, although not easy, is a must to create long term wealth. Since the stock markets have come into existence, investors have always faced a dilemma in selecting good stocks. Investors must study and analyse before choosing stocks. For those who are not financially savvy, here are some tips on how to do it. The first and most important thing for any investor to do is, to look at the company's financial statements. It is also advisable to pick stocks from sectors and markets that you know and have experience in. This can give you an added advantage. Some of the factors investors must look at before picking a stock are:

Earnings per Share (EPS): When you research a stock, the first thing you should look at is the Earnings per Share (EPS). This is the amount of profit the company is making on a per share basis. Market appreciates stocks which have a growth in EPS while it reacts negatively for stocks with stagnant or reduction in EPS.

Dividend yield: A dividend is a cash payout to shareholders, usually an annual payout by profit making entities. A stable or increasing dividend means the company has good cash flow and a positive outlook for the future. A decreasing dividend usually means the company is trying to keep some cash on hand for other expenses, possibly a sign of tough times ahead. One indicator of a good stock to buy is a high dividend yield. The yield is the yearly dividend as a percentage of the stock price. A high yield means you are getting a larger dividend for your investment. Stocks which have a higher dividend yield have better valuation in the market as compared to those with a lower yield.

Debt: Stay away from companies with high amounts of debt when looking for good stocks to buy. As most investors have found out recently, it can be very difficult for companies with large amounts of debt to survive, especially in recessionary times. The profitability of companies with overleveraged balance sheet more often than not is affected by the high interest outgo. These can have cash flow issues too. Any downgrading in credit rating resulting due to cash flow issues can have an adverse impact on stock price.

Future prospects:: Understanding future prospects is important as part of financials. You can identify the factors that may influence the future performance of a stock. For instance, COVID pandemic has helped stocks in the Pharma sector. Future prospects of the company can be enhanced or marred by policy decision. For instance, opening up for FDI can have a positive influence in anticipation of increased capital inflows. However, factors like technology changes can have either a positive or adverse impact.

Peers: Compare your identified list of stocks against its peers in the same industry or sector. Looking at competing companies and their fundamentals can be a great way to size up a potential investment. It is advisable to invest in a market leader than the second or third rung stocks. Peer comparison is required as the same will help in relative valuation of the stock. Price earnings ratio is usually used for comparing the valuation of a company vis a vis its peers.

Strong brand : Companies with strong brands are likely to perform better in the long run even if they may be less profit making in the short run. Market puts a value to the brands too while valuing a company with strong brands.

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