Tue | Feb 21, 2017

Briefing | What to know before investing in a stock

Published:Wednesday | January 11, 2017 | 12:00 AM

As the new year takes gear, it is time to think about how to earn more money to improve your standard of living. There are many ways to do so, and investing in Jamaica's stock market is one lucrative way, given its trajectory in 2015 and 2016.

As the Jamaica Stock Exchange pushes to hold its conference at the end of the month, it is necessary to discuss the stock market, how to invest and, more importantly, how to make the best of your investment. The key here is an understanding of the need to know the correct information to make the right investment decisions. As the Jamaican stock market continues to improve on a yearly basis, so can your life if you learn how to invest wisely.

 

How far from frontier is the company?

 

Many investors are compelled to invest in firms that are already doing well. While this might appear to be a sure-shot strategy, it limits the amount by which your equity can appreciate in value. On the other hand, investing in a start-up company that is very far from frontier might allow your equity more room to grow, hence more room for the value of the equity to increase. Although, on the flip side, these small companies do have a higher propensity to fail. As a result, you must ask yourself the following questions before you invest in stocks.

 

1. What

 

 

does the company do?

 

Many investors take business investment advice from their brokers without actually doing the research themselves. It is naive to invest blindfolded. If and when you decide to invest in a stock, bonds or other financial instruments, make sure you have an understanding of what the company does all around. No one should invest in something they have no idea of. Find out about a company on their website, and if a company doesn't have a website, then I don't think they are worth investing in.

 

2. Is the company profitable?

 

No one wants to invest their money in an unprofitable venture. The same holds true for financial investments. Make sure the company is profitable. You can get information on the profitability of firms from their quarterly or annual revenue statements. It is important to chart the firm's net income in actual amount and in earnings per share. Along with knowing the company's profitability, it is import to know:

 

3. What is the company's

 

 

earnings history

 

 

and potential?

 

If the company has a history of steady, gradually increasing earnings, then you bookmark this company for investment. If the company's earnings are volatile, then it will require more research before making an investment decision. It is important to scrutinise not just a company's earnings history but also its future earnings prospects. In 2011, no one would have predicted that Blackberry would be an uncommon mobile device in 2016, for example. Stock investment can be tricky. You should have an understanding of what stage of the business cycle a company is in before you invest. If the company is a start-up, booming, declining or liquidating, etc, understanding this will have significant implications on the value of the stock you purchase over the short to medium term.

 

4. How does the market value the company's stock?

 

It is all good and well that a company's earnings are growing. What is also important is the value the market associates with the increase in earnings. If a company's earnings are increasing but the stock value is not appreciating significantly, then there might be other concerns to investigate. It becomes important therefore to ask:

 

5. What are the key characteristics of the industry, who are the competitors?

 

Understanding a company requires full understanding of the industry in which the firm operates which contains its competitors. A firm is never independent of the market in which it operates. It is important to know the size of the market share that the firm has. Who is its closest competitor? What is their strategy and what are they planning to do? What impact will their action have on the earning potential of the firm and the value of its stock? Does the industry have a dominant market leader or are there a couple of market leaders? Or is it an open playing field? Do you have foreign competitors? What is the government doing to make their doing business easier?

 

6. Who runs

 

 

the company?

 

Stock market investors, in theory, are part-owners of the firm they invest in, but they don't normally get the opportunity to chat up to the management team and express their vision for the firm. This means you must investigate the leadership of the company to make sure their vision, aspirations and drive for the company is similar to what you expect. Make sure the leader has a good track record and their reputation is clean.

- Dr Andre Haughton is a lecturer in the Department of Economics on the Mona campus of the University of the West Indies. Follow him on Twitter @DrAndreHaughton; or email editorial@gleanerjm.com.