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You Deserve to Know how to Invest in Stocks

The famous Wall Street adage ‘buy low and sell high’ is a favorite among stock brokers and commentators, but learning how to invest in stocks is often easier said than done. Finding cheap stocks might be the way to reap substantial returns from investing, but just how to invest in stocks is an age old question that needs to be studied before putting your money down.

P/E Valuation

One of the most popular methods for valuing stocks is to look at the Price Earnings ratio. This ratio measures market price per share divided by annual earnings per share. In other words, it measures the value of a stock in relation to its earnings. But it gets complicated since different measures use different metrics to calculate earnings, from historical earnings to current earnings, and then even projected earnings.

Without getting into the nitty-gritty of P/E valuation, the main point is that the higher the P/E ratio, generally the more expensive stock. This is tempered by the fact that stocks with high P/E’s can often be high growth stocks and generally good to own.

A better and simpler measure how to invest in stocks is the Shiller PE, which measures valuation for the broader market. Values below historical norms such as 14 indicate the market is cheap and these are generally good times to buy.

Market Cycle

Economics teaches us that when something is very cheap people will buy it, reducing the supply, and increasing the price of whatever the product or service is. Subsequently, new suppliers will come to the market in order to take advantage of the high prices, which in turn will increase the supply eventually causing prices to fall back again.

All markets work on the fundamental basics of supply vs. demand, operating in cycles spanning from a few years to long 20-30 year bull and bear runs. Major 20-30 year bull or bear markets are a typical occurrence since it can take long periods of time for new suppliers to come to the market. Historically, it is rare for a major bull or bear market to last longer than that so if you find a market that has been going down for 20-30 years and has finally started to stabilize, it may indicate the market is very cheap and ready for a new bull cycle like the Japanese market is currently experiencing.

how to invest in stocks

Scan a chart

Scanning the historical price chart of a security is a quick and easy way to determine whether a stock is depressed or not and is a basic principle of learning how to invest in stocks. Although this practice works for stocks, this method works best for commodities since a commodity will never go to zero (as all commodities have inherent value). A stock on the other hand can go to zero if the company goes bankrupt.

Look for charts where the price has been hovering at historically low prices for a couple of years or more and it is a fair bet that a bottom has formed. Those stocks are rare finds in the current market but like everything else in the stock markets timing is a major part of the equation.



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