Let your stocks soar as high as they can

MUMBAI: “Kya lagta hai? (what do you think?)” is a question stock market investors in India normally ask each other or anyone who they feel remotely qualifies as an ‘expert’. And based on the response to this simple question, they decide how much to invest and where.

The problem with this approach is that if an investor invests in a stock on someone else’s tip, he must also depend on the guy while making a decision to exit it. Very few investors involve themselves in getting the basic information regarding a company while making a decision to invest in its stock.

As Michael D Sheimo writes in Stock Market Rules - 50 of the Most Widely Held Investment Axioms, Explained, Examined and Exposed, “Getting the basic information before the investment is made can do absolute wonders for saving the investor money. A sudden price increase should never be the only reason to buy a stock. An increase in either price or volume might call your attention to a particular company, but also get the background on what’s happening.”But investors most of the times do not concern themselves with getting involved with the detail as it can be a time taking process which involves a lot of hard work.

As Sheimo writes, “Asking why and digging deeper for information is an inconvenience because it calls for analysis, thought and the formation of a conclusion. These activities take time and energy, and they can often lead to confusion and frustration. To avoid these problems, we mainly depend on the wisdom of others or adopt a shoot-from-the-hip approach to investing”. And this approach doesn’t always work.

After having bought a stock, if its price falls, it isn’t really a pleasant experience. “To pay $52 a share one day, then to hear some negative news and see a price at $42 the next week, is not a pleasant experience.If the investor’s research and selection are valid, the price will probably recover and move to new highs” writes Sheimo.

Given this, analysing a company is of extreme importance. As Sheimo writes “There are multitudinous ways to analyse companies and their common stock, but only one thing is important to the investor: an increase in price that is higher and faster than secure fixed income investments. This might relate to how well the business operates, but it’s not always the case. There are poorly run businesses whose common stock is quite successful. Some of the successes in the airline industry illustrate this fact. The converse is also true: Some well-run businesses are terrible stocks. The company or its product line might be too small to be interesting to the stock market. This is why finance professors frequently do poorly when investing. They can find good companies, but the stock market doesn’t like them.”

Hence, selecting a stock becomes very important. Sheimo writes, “Although it’s always a long-term bull market, some of the short-term damage can be severe. And it is not always a bull market for every publicly traded company. Sometimes, companies that have been leaders in the past lose their ability to compete in an ever-changing marketplace. Other companies are poorly managed... As the renowned Peter Lynch once stated: ‘People should at least spend as much time selecting a stock as they do whey buying a refrigerator’.”

And the mother of all rules to remember is investors should always bet on the long term. “Investing for a long term growth is always less risky than trying to make a fortune in the next couple of weeks. Especially when an investor is just starting out, it is important to choose stocks on the conservative side. Leave the speculation to those who can afford it or have experience losing,” writes Sheimo. Speculation is anyway not everybody’s cup of tea.

“No matter what type of analysis is used for speculative investing, the greatest difficulty is keeping up with the rapidly changing market. Opportunities appear suddenly and are gone within minutes. An individual investor can have problems trying to keep up with the professionals who watch the market change tick by tick,” writes Sheimo.

The next rule for those who have decided to invest in the long-term is not to get unduly perturbed by the daily stock market movement. As Sheimo writes “J Pierpont Morgan so succinctly put it, the market will indeed “fluctuate,” it tends to do that during every trading session. When stockbrokers are asked the question, “What will the market do?” they will either attempt to be positive or neutral on the subject. Many analysts will give a lengthy explanation of what the market should do and why. But it is a simple fact that no one knows precisely what the overall stock market will do.” Having an investment objective in mind is the most important part of the strategy. “Each investor should have a well-defined general objective as well as a specific objective for each individual investment. To say, “I want to make a lot of money in the stock market,” cannot be considered an objective. It’s a dream…..a wish without definition. An investment objective must be specific, be reasonable in expectations, consider risk, have a timeframe and be measurable,” writes Sheimo.

The big question that crops up here is, “When does an investor sell a winning stock?”. According to Sheimo, “More than one investment adviser is guilty of saying, “When you make 100 percent or 200 percent on a stock, sell and take the profit. Leave something for the next investor.”

Sheimo believes that only two things can make it necessary for an investor to sell a winning stock - “1. You need the money for something else 2. You believe that the growth potential of the stock has changed.”

“When you get a stock that is winning, let it win as big as it can. Avoid chopping the legs out from under it by selling too soon to take profits. It’s the losers you want to sell, not the winners. If you’re in business, you don’t fire your best employees; and if you’re an investor, don’t sell your best stocks,” the author writes.