There are many ways to make money in the stock market – you can enter a long position, short sell, buy options, etc. I believe new investors should start trading by using fundamental analysis to pick a long position. Below are the fundamentals I used when I started investing in stocks.
- Pick an industry. Using common sense (oh, and world news!) put your focus on an industry that can reasonably be expected to perform well over the next few years. At the time of this writing, my recommendations are precious metals, crude oil and rare earth minerals. Once you pick an industry, use a stock screener to set the following restrictions.
- EPS (earnings per share) should be, at the very least, a positive number. In a nutshell, this number represents a company’s profitability. Generally, the higher the number the better. I do not like stocks with an EPS much higher than 3.5, because it makes me wonder if the company can sustain that kind of profitability. Also, it makes me question if the company is underpaying its employees or failing to provide decent benefits. Thus, my EPS range is 1 to 3.5.
- Price. You can view price like a tree. A higher priced stock is like a big, strong tree that does not move in heavy wind. A lower priced stock is like a frail tree that snaps in half when the wind blows. Therefore, during times of volatility you can expect a higher priced stock to resist a downtrend. However, the higher the price the more the stock has to increase to see much of a payoff. There, I suggest new investors set a price target of $20 to $45. As a newbie you should stay away from stocks priced less than $20.
- P/E Ratio (price to earning ratio) should be lower rather than higher. This number indicates how overpriced (or underpriced) a stock is. The higher the number the more overpriced the stock. Thus, you want to buy stocks that have lower P/E ratios. You should compare P/E ratios between stocks of the same kind – for example, you would want to compare a tech company’s P/E to a competitor’s P/E since these companies are in the same industry. Tech companies traditionally have higher P/E ratios while utility companies are known to have lower P/E ratios. Thus, I cannot give you a particular number – you have to research each industry to see what is considered low or high.
- Volume. I like the average volume to be a minimum of 1,000,000 to any maximum. The higher, the better. It helps drive the price on good news, and higher volume also ensures that you can sell the stock easily when you want to cash out.
- Buy on uptrends. View the stock’s one year chart to determine whether there is an uptrend or downtrend currently in place (if the stock has not gone up or down much, it is in a sideways trend – avoid this). Reasonable minds will differ about this piece of advice, but I personally feel that new investors should never attempt to pick bottoms – you should only buy a stock when the stock is in an uptrend. A body in motion tends to stay in motion.
There is much, much more to be said about how to pick stocks. I started trading in 2003 and did quite well using only fundamental analysis. As always, you should do your due diligence before making any investment. I am not a professional, and I can not guarantee anyone’s success with stocks. Trade carefully and confidently.