Isabella* is in her early thirties. She has built an emergency pot and a good amount in savings. With her excess cash, she wants to learn about stocks, how they work and how she can make her capital work harder. She set aside an amount that she could afford to lose, without compromising any future plans or her lifestyle, and began to educate herself on stocks.
Isabella chose companies across different sectors that she was excited by and started to follow their news feeds, along with their peers and competitors to learn more about their overall sectors, asking these pertinent questions:
1. Is the company doing anything new?
2. Are there any deals, mergers or acquisitions going on?
3. Do they have good earnings?
To access more information about each of the stocks, she used Yahoo Finance to research:
• Historical price performance of the stock to work out if the company performs well during a recession and when might be best to execute the trade.
• Price-to-Earnings (PE) ratio which is calculated by dividing the current price per share by the earnings per share for the past 12 months.
• Dividend yield which indicates how much income investors can collect from holding a share.
By looking at the historical price performance, Isabella worked out that the stock she was interested in was currently trading at a mid-point range, so it was a suitable time to buy. She also compared this against similar companies in the same sector to gauge which performed better or worse. Yahoo Finance also gave her a list of buy or sell recommendations from different analysts. The recommendations told Isabella if the stock was expected to outperform or underperform compared to the wider market.
In this case, the stock was performing better than the wider market and it looked like a good investment, but Isabella was also careful to look at when the stock was not performing well and found out the factors involved. She also looked at when the company’s stock had experienced volatility and how fast they recovered, but kept in mind that past performance isn’t necessarily indicative of future performance.
Isabella was researching a technology sector stock, which had a high PE ratio due to investors expecting high growth rates in the future. She compared the company’s current PE ratio to its peers to get an overall idea of the sector’s expected growth. Some of the company’s peers had a low PE ratio, which could mean that their stock was undervalued or perhaps the company had a cash flow problem, or they had stopped innovating. Isabella did more research on the low PE ratio companies in the same sector to find out if they were good value stocks.
Isabella then looked at dividend yield on the stock, or the income that investors receive from the stock on a quarterly basis, which varies by sector. Companies in an early growth phase may opt to re-invest capital back into a business and have a low dividend yield. A yield above 3-4 per cent is high and could be an indication of not having a solid growth strategy, or no commitment towards putting capital into research and development. This might raise questions about the source of their future growth and innovation. If the dividend yield is cut, the company might face a cash flow issue or drop in sales.
Before she made any decisions in relation to buying a stock, Isabella looked at the financial statements of the company where she could spot trends, and assess financial health in terms of assets and liabilities. She looked at the balance sheet that told her what the company owned and what they owe. She also paid close attention to the profit and loss account, and assessed what was coming in, going out, the company’s growth and profitability. She also looked at the financial reports of the company’s peers in order to get a real sense of their success in the sector. After looking at the company’s rivals, she decided to buy the original stock that she researched and their closest rival to maintain diversification in her portfolio.
*Names have been changed.
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