How Beginners Can Ensure Picking The Best Shares

How Beginners Can Ensure Picking The Best Shares
by Divya Nair 20/12/2016

Equities have out-performed any other investment assets in India over the last many years. NSE Nifty has given an average annual return of 12.5% in the past 10-15 years. But there are some stocks that have eroded investor’s wealth as well. Choosing which stocks to invest in is a step that decides the quality of your investments. For beginners, judging a company for investment is a challenge,

Parameters to Judge Best Shares -

Know The Company -

Investors can go through history and profile of a company. They should know the products and services the company provides, understand the revenue drivers and the status of capital in-flow. Also, investors should find out whether the company is making profit or losses and understand the reasons behind it.

Integrity In The Organisation -

We have seen in the past that unethical managements have shrunk many organisations. Even if a company does good business, engaging in unethical activities may sooner or later push it to its dooms.

Earnings -

A company with consistent financial performance should ideally be preferred over a company having a volatile financial history. Factors that determine earnings of a company are sales, costs, assets and liabilities. Before picking a company for long-term investment, people must analyse how much a company is making in profits. If the company is making profits, investors should analyze whether revenue, revenue growth, profits and profit margins are sustainable or not. In a loss-making company, an investor should investigate if there are possibilities of the company turning profitable in future.

Cash Flow -

Cash flow is the amount of money that moves in and out of a business. A company’s cash flow status reflects its operative activities. If a company is generating positive cash flow from its operations, it indicates that the company is receiving more money than it is spending.

Valuation -

A company with good future prospect would most probably have a decent market valuation. There are a number of valuation techniques that determine if a stock is undervalued or overvalued. Here are some of the relative valuation techniques:

P/E Ratio - P/E ratio is commonly uses in relative valuation. It indicates how much an investor is willing to pay off the earnings. If the P/E ratio of a company is 10, it means investors are ready to pay Rs 10 per Re 1 of EPS. Generally, a low PE stock is preferable over high PE assuming other factors of the company are same.

P/B Ratio - P/B ratio denotes how much investors are willing to pay off the book value of a company. If a company has P/B ratio of 2, it indicates that investors are ready to pay Rs 2 for Re 1 of the book value. A stock with lower PBV is preferable.

Dividend Yield - It indicates how much investors are receiving in the form of cash dividend for each rupee invested in share. For instance, if dividend yield of a company is 12%, it denotes that it pays 12% of its share price to its investors. Usually, a company with higher dividend yield is preferred, as that would mean more dividend income for investors.

Relative Comparison With Peers -

Investors should do a relative comparison of the company with its peers taking the above parameters into consideration. As a result, investors may be able to identify competitive advantages of the company over its competitors.

Conclusion -

An in-depth analysis about companies before investing in them helps investors stay away from wrong investments. Keeping the above factors in mind while analysing a business would ultimately help investors yield desired profit from their money.