How to pick stock market winners: Here is what investors must do

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Published: January 15, 2018 4:58:38 AM

On February 1, the Union Budget will announce policies for different, niche sectors. Tune a part of your equity investment in companies which may gain. However, do not overlook the fundamentals of a company.

As the Sensex scales new heights and returns from debt products stagnate, retail investors are increasingly looking at investing in equities.

As the Sensex scales new heights and returns from debt products stagnate, retail investors are increasingly looking at investing in equities. In fact, in 2017, the Sensex and Nifty gained 28% and 29%, respectively, largely driven by liquidity. Even the broader markets showed smart returns as the Nifty Midcap surged 45%. But before investing in stocks directly, investors must understand the various determinants of portfolio performance, look at the fundamentals of the company and select good companies to invest.

Look at fundamentals

Before investing in stocks directly, look at the fundamentals of the company. As a long-term investor, do not let drops in markets dampen your spirits as the Indian markets are likely to deliver higher than expected returns. Before deciding on a company to invest, look at cash flows, earnings, corporate governance, debt-to-equity ratio and returns. The primary valuation matrix that every investor must look at is the price-to-earnings (P/E) ratio. It is computed by dividing the market price with the company’s earning per share. Stocks with low PE ratio are known to have cheaper current price and expected to generate higher return in subsequent periods. Selling your stock when it is low, as done by most retail investors, will not help as one will lose the invested money. The near-term volatility should not be a major concern unless the fundamentals of a particular stock or a sector doesn’t look encouraging. Instead, consider buying more stocks when the prices are low to bring down your overall average price for the shares. Investing in stock market should be seen as long-term as the purpose of investing in stocks is to build wealth.

Market cycles

All asset classes, including stocks, have unique cycles. Look at the cycles carefully as in some years, small and value stocks may outperform the market. Investors should understand that their portfolio will not identically track the market every single year. Recently, mid-cap stocks outperformed large-cap peers. While the mid-caps success story has been a good one, large-caps are likely to offer better consolidated returns over a long term. At the time of the Budget on February 1, the government will announce various policies in niche sectors. Tune a part of your equity investment in companies which may gain. However, by no means does this imply that you overlook the fundamentals of a company. Invest in a company which has the potential to bring about a positive turnaround using the favorable government policy.

Timing the markets

Leave that for speculators and day traders. When a retail investor times the market, he usually misses out on the rally or enters the market at the wrong time — either when the valuations have peaked or when the markets are on the verge of declining. Typically, retail investors begin investing in stocks out of fear they might miss out on another year of growth. Instead of timing the market, set a default option, every month or quarter as per your own investment policy. Always remember that catching the tops and bottoms is a myth and in doing so, more people have lost far more money than people who have made money. Retail investors who invest money systematically in stocks and hold on to them patiently have been seen generating outstanding returns. Have patience and follow a disciplined investment approach besides keeping a long-term broad picture in mind. If you want to invest in equities in a volatile market, ensure that you have surplus funds. High risk, high gain concept may not work always.

Safe with mutual funds

At the end, if you think direct investing in stocks is not your cup of tea, then invest in equities through mutual funds at least till the turbulent times are over. With mutual funds, you can invest through systematic investment plans by investing small sums of money every month over a period of time. They are like a recurring deposit which enables an investor to buy units on a given date each month. One of the biggest advantage of an SIP for a retail investor is that one does not have to time the market and worry about the volatility. As an SIP is meant to tide over volatility in the markets, the longer the investment horizon the better it is. If you start out young, equity funds should constitute around 80% of your portfolio as this asset class has been found to be the best bet for growing money over the long term.

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