Investing in shares

QUESTION: I am 23 years old. I read in the paper where you were giving financial advice on investing in shares and I, too, would like to invest. I will just ask a few critical questions.

1) Where do I start? I have $50,000 that I would like to invest in shares and I have interest in certain firms, Lasco being one of them.

2) What are the benefits of investing in different companies?

3) Is there a good investment firm that you can recommend me to?

4) Are there any reading materials you can refer me to broaden my scope and understanding on investments and making good financial decisions?

I look forward to hearing from you.

- Lisa

FINANCIAL ADVISER: Considering that so few Jamaicans invest in the stock market, about four per cent of the population, it is refreshing to see a young person taking an interest in investing in stocks. It can be very rewarding, but can also cause serious grief so you must be very clear about why you want to take this step and how prepared you are for its consequences.

A major advantage of investing in shares, or ordinary stock, is the actual or potential high total rate of return due primarily to growth in market value and, second, to the receipt of dividends.

With proper selection and timing, the long-term record of a diversified portfolio of high-grade common stocks generally outstrips the performance of bonds from the standpoint of income and capital value even after considering interruptions in the upward movement of prices due to market conditions or disappointing profits.

There are disadvantages to investing in shares. They are secondary securities, ranking after debt in the event of liquidation; shareholders are paid after the claims of bondholders have been satisfied.

Stocks are subject to the ebb and flow of the business cycle so, during periods of prosperity, profits, stock prices and dividends tend to be good. The opposite tends to be true during periods of contraction: profits, dividends and stock prices tend to be low.

Prices may also fall when profits fall below expectations or the market itself is passing through a period of correction or is in a slump due to negative developments in the economy.

There are wide differences between individual stocks with respect to quality, price performance and income.

SECTOR-DEPENDENT REACTIONS

Additionally, the stocks of companies in various sectors of the economy react differently to the same event. In the current situation in which our dollar is losing value, companies that depend heavily on imported raw materials are hardly likely to do well.

On the other hand, companies that are net earners of foreign exchange can be expected to do well. Investing in various companies facilitates diversification and thus is one form of reducing risk.

It is important to learn about the companies in which you purchase stock. If you are going to be a serious investor, you must do some research; that is the only way to know if it is worthwhile to make an investment decision.

It is not good enough to depend on others to make your decisions for you, to give you recommendations or to give you tips. When it comes to tips, bear in mind that investing is not horse racing. This is not to say that you should not consult with investment professionals, but you must remember that it is your money which is being invested and that you are ultimately responsible for your financial decisions.

Make an effort to understand how to analyse financial statements. The balance sheet will help you understand the financial strength of the company and the earnings statement, or profit and loss statement, will help you to understand if it is profitable.

Some ratios are very important. Return on equity says how well shareholders' funds are being used to generate profit. Earnings per share tell how much profit the company earns per unit of stock. The net profit margin tells how much net profit is made from each dollar of net sales.

Although debt can be used to generate profit sufficient to enhance shareholder wealth, it is important that a company does not borrow excessively.

Compare its ratios with those of similar companies. In doing that, you could find a better stock than the one you were considering.

You would also want to pay close attention to the management of the company. Its managers should know about the industry, should have relevant experience, should be able to set a clear direction for the business and be prepared to set the long-term and short-term objectives of the company.

Check if the company details its financial and operational targets in dollar terms in its annual report and if it reports back on how it did the previous year.

There are several brokerage houses in Jamaica. The Yellow Pages can help in locating them, but you may also check with the Jamaica Stock Exchange to identify them. Ask them for their own annual reports so you can determine how sound they are.

Check their websites as well to see the services they offer and the quality of their research. The Internet is also a useful source of information on investments and it gives access to useful resources such as Money magazine.

Profitable investing requires patience and hard work. Avoid following the crowd.

If you do not believe a stock is a worthwhile investment, leave it alone regardless of what others are doing and do not use money you will need in the short term to buy stocks.

May success be yours.

Oran A. Hall, a member of the Caribbean Financial Planning Association and principal author of 'The Handbook of Personal Financial Planning', offers free counsel and advice on personal financial planning. Email finviser.jm@gmail.com.