Ajitansh Kar, Gurugram, 5 December 2022
A lot of times people get confused about what the stock market actually is. Some say it is a place to gamble while others see it as a place to create immense wealth for future generations. I strongly believe in the latter and the goal of becoming wealthy can be achieved by adapting to healthier investment habits from an early age or as soon as possible. One of the greatest ways of becoming wealthy through this market is by investing in great businesses over a long period of time and letting our principal amount of investment compound to a substantial amount of money. The concept may sound easy on the surface; but choosing the right stocks can be a tedious task for many.
The first step before putting your feet into finding the perfect stock is to research about a particular sector which you might be interested in or find attractive. You should study about the sector and try to find out how that particular sector functions, its growth opportunities, schemes launched by the government in support of the sector, etc. Researching about a sector takes time and you as an investor must be willing to invest your time and energy trying to find a conclusion about the opportunities that various sectors offer in the future. This can sound a very boring and tiring process to follow but investors and market researchers across the world have made various financial models which help streamline this process and make it much easier to complete our analysis.
One of my favourite models is Michael Porter’s Five Force Analysis which is one of the easiest to interpret and follow. It is a simple model which asks five questions about a particular sector or industry and leads to a conclusion as to how lucrative a sector is to invest in or research about further. The questions which the model asks are as follows:
- Competition in the industry or sector
- Potential of new entrants coming into the industry or sector
- Power of suppliers
- Power of consumers
- Threat of substitute products
After completing your sector analysis,you ought to filter out the best stocks from the various sectors which you researched upon. This can be done with the help of a stock screener like screener.in, tickertape, etc. Filtering out your stocks is necessary as there are huge number of businesses listed on the stock exchange and it is impossible to do an in-depth study on all. For filtering out stocks, there are a wide range of financial ratios which assist us in our selection process. Some ratios which are preferable to use are Return on Assets (ROA), Return on Capital Employed (ROCE) and Return on Equity (ROE); these are especially helpful intelling ushow effectively the management is running the company(ies). Other ratios such as Current ratio, PE ratio and Profit growth tell us how the company(ies) is performing financially.
The next step after finding the right stocks is to do an in-depth study of the company or companies by analysing its annual reports and concalls (earnings conference calls that companies routinely undertake to spread the news about their performance) and try to understand its business and how it functions. Remember, the more you read about the company’s history and better understand its business, the better conviction you will develop to stay invested in it and make wealth from it.