5 Rules of successful stock investing.To be successful in stock market one should develop their own investment philosophy. Without an investing framework, a way of thinking about the world, you are going to have a very tough time in the stock market.Here are the five rules for successful stock investing :-1. Do your homework.2. Find economic moats.3. Have a margin of safety.4. Hold for the long haul.5. Know when to sell.
Do your homework.
This sounds obvious, but it is the most common mistake of the investors. Unless you know the business inside and outside, you shouldn’t buy the stock. For this you need to develop an understanding of accounting so that you can decide for yourself what kind of financial shape of company is in. While taking risk of your money you should know what you are buying. One need to know about accounting and how it is used in analyzing companies. Once you have the tools, you need to take time and put them to use. That means sitting down and reading annual reports to cover, checking out industry competitors, and going on through past financial statements. It can be tough to do especially if an individual is pressed of time. But taking out time and doing a thorough investigation of the company will help you in avoiding bad investments.
Find Economic Moats
The second rule for successful stock investing is finding economic moats. What separates bad companies from good ones? Or good companies from great ones?The term economic moat means firm’s competitive advantage- in the same way moat keeps invaders of medieval castles at bay, an economic moat keeps competitors from attacking firm’s profits.
As high profits in an industry attract more competitors and with time passage most highly competitive companies tend to become less profitable as other firms compete with them. Economic moat allows relatively small number of companies to retain above-average levels of profitability for many years, and these companies are often most superior long-term investments. There can be many reasons for being a wide economic moat such as, Adobe’s High customer switching cost: graphic designers are trained early in their careers to use the company’s software and can’t do their job without it.
PepsiCo – By far the market share leader in salty snacks and sports drinks, the diversified food company boasts a stable full of string brands, innovative new products, and an impressive distribution network.Companies with narrow economic moats:-Disney – Owns some of the most valuable intellectual property in the world, but increasing competition and an absence of creativity has eroded some of the brand’s appeal
Have a margin of safety.
Finding great companies is only half of the investment process- the other half is assessing what the company is worth. You can’t just go and pay whatever the market is asking for the stock because the market might be demanding too high a price. And if the price you pay is too high, your investment returns will likely be disappointing.The goal of any investor should be to buy stocks for less than they’re really worth. The difference between the market’s price and our estimate of the value of the stock is the margin of safety.
The size of the margin of safety should be high for shakier firms with uncertain futures and smaller for solid firms with reasonably predictable earnings. For example, a 20% of margin of safety would be appropriate for stable companies like Reliance industry, but you’d want a substantially larger one for a firm like Tata Motors, which is driven by the industry cycle.One of the simple way to get a feel for the stock’s valuation is to look at its historical Price/earnings ratio- a measure of how much you are paying for every Rupee of the firm’s earnings- over the past 10 years or more.
Hold for long haul
Never forget that buying a stock is a major purchase and should be treated like one. You wouldn’t buy and sell your car, your refrigerator, your T.V 50 times a year. Investing should be long term commitment because short-term trading means you are playing a loser’s game. When you trade a stock instead of investing you are making money for your broker not for you. No matter you win or lose a trade buy a broker will get his part of commission and govt. will cut their tax out of your profits even If you win.
If your are trading frequently, you’ll rack up the commission and other expenses, that overtime, could have compounded. Every 100 Rupees that you spend on commissions could have turned into 560 Rupees if you had invested the 100 rupee at 9% for 20 years. Spend 5000 rupees today and you could be giving up more than 28,000 Rupees 20 years hence.
Look at two hypothetical investors to see what trading, commissions and taxes can do to a portfolio. Long-term Gaurav is one of the old fashioned buddy who likes to buy few stocks and hang on to them for longterm and the trader Anshul is a gunslinger who likes to get out of stocks as soon as he’s made few bucks. Both Gaurav and Anshul started investing with an initial capital of Rs. 1,00,000 . Gaurav invested the money in five stocks at a 9% rate of return and sells the investment and pays long-term capital gains tax of 15%.
Anshul meanwhile, invests the same amount of money at the same rate of return of 9% but trades the entire portfolio twice a year, paying 35% of short term capital gains tax on his profits and re-investing what’s left.After 30 years, Gaurav has about Rs. 11,40,000, while Anshul has less than half that amount- only about Rs. 5,40,000
Know when to sell.
The last rule to successful stock investing is knowing when to sell the stock.Ideally, we’d all hold our investments forever, but the reality is that few companies are worth of holding for a decade at a stretch- and few investors are savvy enough to buy those companies.
So, one should know when to sell the stock. The key is to constantly monitor the companies you own not the stock. Because if the company will do better in the long run so the stock will do. It’s far better to spend some time keeping up on the news around your companies that to waste time seeing the stock price of the companies 20 times a day. There can be many reasons to sell a stock, out of main reasons to think about selling a stock are:-
1: The fundamentals or the financial future prospectus has deteriorated.
2 The stock has risen too far above its intrinsic value.
3.When you can do something better with your money.
4. When you have too much money in One stock.
5. Suppose, the initial analysis about the stock is wrong then cut your losses, take the tax break and move on.