Point 1 Don’t invest in hype stocks.
An intelligent investor is always searching for companies with a new line of products or services, in which, if he invests early before the mad crowd, he may make riches out of an outstanding investment. But this is the case with already established companies. What if…the company is a new one and in its promotional stage? Should you invest in it? No…don’t buy into new or promotional companies because of the many reasons discussed below:
From an investment standpoint, a new company with at least two or three years of commercial operation and at least one year of profitable operation puts itself under a different category from an established company. An established company has years of commercial experience in production, sales, marketing, R&D, and accounting controls.
Young companies are all too often dominated by one or two individuals who have great talent for certain business phases but lack equally essential phases. They may be production people, totally unaware that even the best products require skilful marketing as well as manufacturing.
Point 2 Don’t ignore hidden gems off the main exchange.
An outstanding multi-bagger stock may not always be found on the most reputed stock exchanges, because the stock is not listed yet. You must have heard of many good businesses out there that are probably not listed on any exchanges, simply because they are so fortunate and able to self-finance their ventures that maybe they don’t need equity financing.
An investor should always keep a watch on them; once they think of bigger expansions, they will immediately need equity financing to meet their obligations rather than borrowing from banks, thereby escaping the debt trap.
Point 3 Don’t trust glossy annual reports.
Shareholders might be surprised to know how often they are influenced by the wording and format of an annual report. Annual reports are generally presented in such a way as to create a good impression in the public mind. No one can tell whether the president has actually written his statement or whether a public relations officer has written the statement for his signature. Attractive photos and nicely coloured charts do not always reflect an able management team working in harmony.
Buying a stock under the influence of an annual report is like buying a product just because of an appealing billboard advertisement. It becomes very important today to go beyond the underlying facts because nowadays reports are made to build up shareholder goodwill.
They are often presented in an overly optimistic way, omitting the difficulties and challenges faced. Like any other sales tool, annual reports are prone to put a corporation’s “best foot forward”.
Point 4 Don’t stress over pennies and miss the big picture.
Let me explain it with an example.
Suppose an investor, 10 years ago, with all due respect, demonstrated a high order of investing ability and wished to purchase 1000 shares of a stock trading at INR 55 and closing at INR 55 on that day. He wished to buy it only at INR 50. The next day, the stock sold repeatedly near INR 55. Reluctant to buy the stock at INR 55, he placed an order at INR 50 for 1000 shares. The stock never again sold below INR 50. After 10 years, the stock was trading at INR 400. So, in an attempt to save INR 5000, the investor missed a chance to earn at least INR 3.45 lakhs.
For a small investor wanting to buy only a few hundred shares of a stock, the rule is simple. If the stock seems right and the price seems attractive at current levels, then buy “at the market price”. The extra eighths or quarters that may be paid are insignificant compared to the profit that will be missed if the stock is not obtained.
Point 5 Don’t fear a high price to earning ratio in a strong growth company.
No one can argue that stock X, already discounting its future earnings far ahead, is likely to be overpriced. The problem lies in the fact that some investors assume that, 5 years from now, stock X is going to trade at the same price-to-earnings ratio at which an ordinary stock is trading.
There is no reason to compare a growth stock with an excellent history of sales and profit to any ordinary stock. If stock X has performed well in the last 5, 10, and 15 years while trading at a high price-to-earnings ratio, then what mishap is going to happen in the next 5 or 10 years? Probably nothing at all! Just as the stock performed in the past, in a similar way, it is going to perform in the future.
A growth company that always finds new possibilities to dwell in market needs, finds a way to develop existing products, or creates a new line of products will definitely generate higher sales and grow a broader profit margin.
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