Stock Research Guide
Buying a stock without researching it is like buying a car without driving it. It doesn't
really make any difference how a stock behaves on any given day (unless you are day trading, I guess), it is more
important to know as much as possible about the company behind the stock.
The stock research has to be done to predict the future trends of the stock and access
the real value condition of the company. Once you have an idea of a company's financial health, management
performance, product line, customer base, and a myriad of other details, you can make an intelligent decision
whether or not to take a position in that particular company.
You don't have to spend a lot of time doing the research. However it is important that you look into a few key
indicators. It should take you about an hour per investment decision.
What you need to know
First of all, you need to know what a company actually does and what industry the company is in. Although this
may seem insignificant, relative to other indicators that you will look at, it is a very crucial fact. If you end
up purchasing a stock in a declining industry, or one that has fallen out of favor for any number of reasons, the
stock's value is likely to decline regardless of the individual company's performance.
The next key indicator is the company's market capitalization which is the number of outstanding shares
multiplied by the stock's market value.
Analysts classify companies according to their market cap (or Cap). This allows investors to get a handle on
growth vs. risk. As a rule of thumb, large caps provide slower growth with lower risk, while small caps have
provide higher growth potential with a corresponding higher risk.
Different Types of Capitalization
Here are the standard categories that are assigned to companies.
Mega Cap - This group includes companies that have a market cap of
$200 billion and greater. They are the largest publicly traded companies and include names such as Microsoft,
Exxon, Wal-Mart, and General Electric. Not many companies will fit in this category, and those that do are
typically the leaders of their industry.
Big/Large Cap - These companies have a market cap between $10-$200
billion. Many well-known companies fall into this category, which includes names like Yahoo, IBM and Citigroup.
Typically, large-cap stocks are considered to be relatively stable and secure. Both mega and large cap stocks are
often referred to as "blue chips."
Mid Cap - Ranging from $2 billion to $10 billion, this group of
companies is considered to be more volatile than the large and mega-cap companies. Growth stocks represent a
significant portion of the mid caps.
Small Cap – Typically new or relatively young companies, small
caps have a market cap between $300 million to $2 billion. Although their track records won't be as lengthy as that
of the mid to mega caps, small caps do present the possibility of greater capital appreciation--but at the cost of
Micro Cap – Mainly consisting of penny stocks, this category
denotes market capitalizations between $50 million to $300 million fall into this category. The upward potential of
these companies is similar to the downside potential, so they do not offer the safest investment, and a great deal
of research should be done before entering into such a position.
Nano Cap - Companies having market caps below $50 million are nano
caps. These companies are the most risky, and the potential for gain is often relatively small. These stocks
typically trade on the pink sheets or OTCBB.
Know the P/E ratio
The P/E ratio, or "price to earnings" shows how much current investors are willing to pay for each dollar that
the company earns. Usually, the P/E ratio stand between 18-24 for high growth firms. The P/E shows you whether or
not the stock is under or overvalued. Although P/E is a good indicator, it is sometimes thrown off by surges in
demand for a particular stock. P/E ration are based upon current earnings and not on future earnings.
Besides knowing about the particular stock, you should also keep abreast of certain external issues that could
affect your share's price. Some of the important issues that you should keep an eye on are:
A rise in inflation causes interest rates to rise which may affect the company's cash flow. Lower inflation
rates cause interest rates to fall. Not a good thing if you are invested in Bank stock, for example.
Interest rate fluctuations
A rise in interest rates generally causes the market to decline, while a decrease in interest rates generally
causes the market to rise.
A rise in unemployment is often a sign of a slowdown in the economy. This could lead to lower interest rates as
an effort to kick start the economy. Conversely, lower unemployment levels are a sign that the market is beginning
to heat up. In this instance, there could be a rise in interest rates in an attempt to keep the market from from
You will definitely want to keep an eye on news items that relate to your company directly or to the sector that
it is in. Adverse news stories can cause a stock's price to plummet and could wipe you out overnight.
While it may seem like a lot, the process of researching a stock becomes routine after you've done a few. The
time invested in doing through stock research up front can go a long way towards protecting the value of your
investments down the road.
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|Recommended Resources ...
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