4 Tips for Analyzing Stocks
If you're ready to invest in individual stocks, then you need to know how to analyze stocks. Thinking that a company is going to do well is no reason to blindly invest in that company's stock. Once you've decided that you want to invest in a company, you need to take a look at how the company is doing, how it has done in the past, and most importantly, what it is planning to do in the future. You then need to decide if the stock is a good purchase based on the current price. Even if the company is going to grow at 25% a year for the foreseeable future, the stock price will not be a good purchase if it's valued like it will grow 50% a year!
The four steps to analyzing a stock are:
- Determine how the company makes its money
- Figure out the company's finances
- Analyze the future growth of the company
- Determine whether or not the current price is a good one
Actually, before you start analyzing a stock, you have to do is figure out which stock you want to research! Let's say that I am interested in the (imaginary) company Bill's Brews (BBREWS) after trying their signature Bill's Acorn Ale. I go to a finance website, such as Yahoo! Finance or CNN Money, and type their ticker symbol (in this case, BBREWS) into their stock price widget, and start to do research.
The first thing I want to find out is what all the company is all about. Many companies are diversified and do more than you may know. For example, people know that General Electric makes light bulbs, but they may not know that they also make airplane engines and have a powerful finance arm. In this case, BBREWS makes not only beer, but also a wide range of soda pop. In fact, 60% of revenue comes from soda pop, but only 10% of earnings come from soda pop. In other words, 60% of total sales money comes from sales of soda pop, but only 10% of profits. BBREWS makes much more money for every beer it sells than for every bottle of soda. This may make you more likely to invest in BBREWS, because you see that the product you like – the beer – is the one making money.
Secondly, now that you have a reliably qualative idea of how the company makes money, you need to get a more quantitative idea. You should find out the price / earnings ratio (the ratio of the stock price to the annual earnings of a stock), the price / sales (the ratio of the stock price to the annual sales), the profit ratio of the company, and comparison numbers for other businesses in this industry. You will also want to get any other financial data from this company that you can get your hands on, but these are the most important numbers for proper analysis of …