Investment strategies: how to research shares
For many new investors, researching shares can be daunting. The more you know, the better your decisions should become, so we start here with a few manageable steps.
Understanding the basics of share analysis
Before you start researching shares, it is important to familiarise yourself with some key terms and concepts.
This refers to the main sector where your target stock is active. For instance, the London Stock Exchange (LSE) classifies Tesco as a Food and Drug Retailer1, placing it firmly in the retail sector. If you were considering a Tesco stock purchase, you might therefore choose to supplement your research by looking at the recent performance of other UK retailers to give you a fuller picture of Tesco’s position in the market.
UK investors are not necessarily limited to investing in UK-based companies. For instance, if you wanted to gain some exposure to companies which are listed on US stock exchanges, you will be able to find relevant tracker funds and exchange traded funds (ETFs).2 These easy-access funds are a great way to diversify your portfolio across different geographies.
Everyone’s risk profile is different, but as a general rule the younger you are, the more risk you can afford to take on, purely because you have plenty of time to correct any early errors.
Some investments are evergreen – the FTSE 100, for instance, will always be popular with investors of every risk outlook. If you are a risk-aware investor, you may wish to carve out some space in your portfolio for higher-risk investments such as hedge funds and private equity. However, if you are risk-averse, you may prefer to stick with mid-cap and blue-chip equities and government bonds.
You can learn more about the various sectors, risks and geographies of your chosen shares by visiting the LSE3 website, or by searching for them through a stock screener. Stock screeners can help simplify the stock-picking process by allowing you to search for stocks in terms of sector, asset class, or geography. This will speed up your research process by allowing you to target specific areas of interest, rather than sifting through dozens of irrelevant options.
Learning the language
Once you have mastered the basics, you will start to notice a few key terms and phrases popping up again and again.
The price/earnings (P/E) ratio tells you the value of your stock. It is based on a calculation of the current stock price (i.e. the price you pay for each share) divided by its earnings over the past year. For example, if you buy a stock for £8 and 12 months ago that same stock was worth £6; that represents 12 months earnings of £2. Eight divided by two is four, which gives you a P/E ratio of £4. This means that if you’d put your money in that stock 12 months earlier, you would have earned the equivalent of £1 for every £4 that you had invested.
However, as every investment platform is at pains to remind you, past performance is no indication of future returns. While the P/E ratio is a great way to work out the general value of a stock, it is by no means the only thing that you should look at.
This is one of the most-used terms in finance, and it is especially significant for newer or less experienced investors. Diversification simply means spreading your money across a range of different types of stocks and shares. By doing this, you can minimize the risk of losing all your money through one bad investment. Furthermore, by diversifying your portfolio, you increase your chances of making continuous returns, even if only a portion of your portfolio is performing well.
Full-year results (Finals)
The ‘Finals’ usually refer to the full-year results of a listed company. All stock market constituents are required by law to produce a detailed financial report which includes the latest information on profits, revenue, and sales. Ahead of the release of the Finals, these companies will issue quarterly reports, dividend updates and – in some rare cases – profit warnings. These smaller updates will help investors track the progress of their investments, and to make informed decisions about whether to put more money in, or divest.
Read the balance sheet
Every investor should be able to read a company balance sheet. This is a brief statement of the company’s assets and liabilities, and it offers an ‘at a glance’ insight into the health of your stock holdings. The balance sheet can also be used to make certain analyses, such as the debt-to-equity ratio.
There are plenty of free research tools available to investors. The financial press is an excellent resource for active stock-holders, as this is where you are likely to learn about key economic indicators and company specific news.
Once you have chosen your stock portfolio, you will be able to work out which sectors and companies you are particularly exposed to, and you can then focus on reading the news that affects you. For example, if you have a lot of oil and gas investments, you may wish to pay more attention to commodities news, and reporting on energy regulation.
Economic news can also offer a few hints on market performance. Brexit has arguably been responsible for most of the stock market volatility of the past three years, with a number of market reversals coinciding with missed milestones and controversial speeches. By staying on top of the latest news, you may find that you are able to better predict any side effects for your stock portfolio.
Another great resource for investors is the companies themselves. If you are invested in a listed firm, sign up for company updates and make sure that you keep a close eye on any major staff changes or strategy shifts.
Corporate updates will invariably include a company report. These are usually produced at least once a year and outline any operational changes and expansion plans for investors. This document gives an invaluable insight into the inner workings of the company that you are invested in. As a shareholder, you should be given the opportunity to query anything in the report when the annual shareholder’s meeting rolls around.
Researching shares can be time-consuming and complex, but it is one of the few hobbies that can reward you with higher returns or an additional income.
Once you have mastered the art of researching shares, you will be able to make better decisions about your investment portfolio, and you will have a much better understanding of your own investment goals.
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