Whenever the market touches its lifetime highs or goes into a deep correction, one question definitely stumbles upon the head of an investor who hasn’t started his investment journey in the stock market. The question is that is it the right time to invest in stocks.
Retail investors wait for the market correction that allows them to buy stocks at an attractive valuation.
Contrary to that when the market witnesses a sharp correction the retail investors are in a dilemma whether they should start investing. They think that the market hasn’t touched its bottom and it will correct more.
Are you hunting high and low for when is the right time to invest in stocks?
Let’s dig deep when the right time to invest in the stock market is.
When is the right time to invest in stocks?
When you are investing in the stock market to achieve financial freedom or create a retirement corpus anytime is the right time to invest in the stock market. The stock market is a voting machine in the short run, but a weighing machine in the long term.
Before you start investing in the stock market, ask yourself the following questions.
Have you created an emergency fund?
You must create an emergency fund to cover all the expenses for the upcoming 6 months namely household expenses, medical expenses, education of children, amazon prime subscription, etc.
Have you cleared all the debts?
Before investing in the stock market clear all of your high-interest debt obligations namely credit card debts and personal loans.
For what period are you investing in the stock market?
When you are investing in the stock market to create a retirement fund that is 20 or 25 years apart then you are free to invest in the stock market. But when it’s time to create a corpus to buy a car within the next five years, don’t invest in the stock market. Start investing in bonds or government securities.
Let’s make it clear with an example.
Look at the following graph.
When you have invested $70,000 at once then the money will be worth of
- $2,17,000+ after 10 years,
- $6,75,000+ after 20 years,
- $2 Million after 30 years assuming 12% CAGR.
If you are investing in the stocks to achieve long-term goals, instead of turning upside down to find the answer of when is the right time to invest in stock market, invest in fundamentally sound stocks with a long-term horizon.
How to pick the best stocks for the long term?
Focus on how to create a portfolio of stocks that will yield the best returns. To do that, check the 7 parameters before including them in your stock portfolio.
Parameter #1. Debt to Equity Ratio
When you divide the total outstanding debt a company has with its total shareholders’ equity, you will find the debt to equity ratio of a company.
The Debt to Equity ratio helps a retail investor to gauge whether the company is delivering robust growth by pumping the external capital. Earnings of a company deep during the economic cycle. As a result, the cost of debt financing surpasses the earnings growth. This incident can make a chance that the stock price will plummet.
As an intelligent investor, you should invest in debt-free companies with robust earnings or companies with a marginal debt of <0.25.
Parameter #2. Profit Margin
To gauge the profitability of a company, the profitability ratio is one of the key matrices used by analysts. The profitability ratio reveals how much percentage of the sales has turned into profits by running a business operation.
When the profitability ratio is in line with the sales, then you can assume that the management of the company is top-notch. They are quite successful in generating profits by running a business operation.
For example, a company has a profit margin of 18%. It can be assumed that the company is able to generate $18 when its total sales stand at $100.
Find a company that has delivered a double-digit profit margin during the last 5 years and stay invested in it for the long run.
Parameter #3. Earnings Per Share
You will get the earnings per share by dividing the company’s net income for a financial year with its total shares outstanding.
The higher the EPS of the company is, the more lucrative the investment opportunity is.
Parameter #4. Dividend payout
Try to find out quality stocks that will regularly reward their shareholders by paying a dividend. To get that you need to check the earnings.
If the company has delivered a double-digit earnings growth then the chances are higher that you will find an increase in dividend payout. So, make sure that the company has a track record of paying a dividend to its shareholders regularly and has delivered a double-digit earnings growth during the past 5 years.
Parameter #5. Return on Equity
To gauge the profitability of a company, the return on equity is one of the key matrices. By dividing the net income of a company in a financial year to its total shareholder’s equity, you can calculate the Return on Equity.
As a rule of thumb, when a company’s ROE exceeds 15% it is worth investing in. Again, when the company’s ROE fails to touch a double-digit then you should be steer clear from investing in that company.
Parameter #6. Price to Earnings Ratio
To access whether a stock is undervalued or overvalued Price to Earnings ratio is a useful way.
When the market price of a share is divided with its earnings per share in a financial year, you will get the Price to Earnings Ratio of a company.
The earnings ratio gives a detailed snapshot of in how many years you will earn back your invested capital if you hypothetically own 100% of the common shares. Suppose the P/E of a company is 25. You can assume that you will earn back your invested capital in the upcoming 25 years.
Different sectors have a different price to earnings ratio. While calculating the price to earnings ratio of a stock, do analyze in which sector the company operates. The technology and software stocks industry have a higher price to earnings ratio in comparison to the mining sector. When you find a company with robust earnings, do consider in which sector the company operates. If it is deemed fit, start investing in that undervalued stock to get a superior return.
Parameter #7. Price to Book Ratio
The Price to Book Ratio reveals whether the company’s market price is in line with its book value.
The Price to Book ratio is calculated by dividing the market price of a stock with its book value per share.
The Book Value helps you to gauge what you will get when the company liquidates all of its assets and clears all the debts outstanding.
Every sector has a different price to book ratio. It’s a tuff call to deliver the most suitable price to book ratio in order to pick the best stocks that will yield better returns in the long run. After searching an ample number of companies with robust earnings, do check whether their share price is in line with the book value of the company. The best company to invest in is that one which has not only has a price to book ratio between 1 and 2 but also is a debt-free company with robust earnings.
7 Points to consider when you are investing in the stock market
After you have picked the stocks with robust fundamentals, do consider the following 7 points before investing in the stock market.
Start Investing Now
If you intend to invest in the stock market, you don’t need to have $1000 in your trading account. You can start investing in the stock market with as low as $50.
The important thing is you should start investing early and step up your investment each year in line with your increased disposable income.
Let’s make it clear with the following example.
Suppose you have started investing $150 a month and then increase 10% year on year for the next 30 years. You might get surprised by knowing that the present worth of your portfolio will be $1 million assuming a 12% CAGR.
So, start investing now and increase the investment amount when you experience a hike in your disposable income.
Avoid the herd mentality
Don’t start investing in any stocks simply because your relatives, colleagues, or friends have invested in them. When you don’t know their risk appetite, time horizon, the chances are higher that you will lose all of your money if you are investing for a year.
To avoid losing your hard-earned money run detailed independent research about the company before investing in that stock.
Don’t start investing solely on Tips and Rumours
As an intelligent investor, you should stay away from the weekend warriors of CNBC or any other channels who deliver an ample number of stocks each weekend. Additionally, don’t make an investment when you have got a message in your smartphone or email in your email account with a stock recommendation. Maybe these emails or messages have been sent by the promoters or insiders of the shell companies to offload shares by leveraging the ‘pump and dump’ strategy. Being inspired by these messages or emails, you will lose your hard-earned money significantly.
Exercise diversification of a stock portfolio
Ace investor Warren Buffet has advised retail investors that don’t put all of the eggs in one basket. Instead, create a diversified stock portfolio. Make a proper diversification of your stock portfolio across various sectors namely Airlines, Bank and Financials, Consumer Durables, FMCG, Information Technology, etc.
No matter how you have diversified your portfolio across various sectors, the chances are higher that your portfolio will experience several market crashes, or share price correction, etc. But when you are stick to discipline and patience after picking the best stocks with robust earnings, your portfolio will shine.
Exercise a disciplined investment approach
At the time of making of a stock portfolio to finance big-ticket goals namely a retirement fund or buying a house in Nevada, you need to follow a disciplined investment approach. After running a detailed walkthrough of the business model, management team, and financial statements, you should include a company the management of which has quite efficiently delivered robust earnings and declared a dividend to cheer the investors.
By resorting to the two methods of investing in the stock market regularly in the fundamentally strong companies and exercising patience you will possibly reap the benefits in the long run.
Buy Stocks when they are available at an attractive valuation
Are you waiting for Thanksgiving Day or Black Friday sales, or Cyber Monday sales, when you will get attractive discounts from retailers?
You can apply the same technique in the stock market too to pick quality stocks that are available at an attractive valuation.
Let’s make it clear with an example.
The market witnessed a deep correction owing to the Covid-19 pandemic.
Now one question stumbles in your head whether the market has touched its bottom or will plummet further when the United States experiences the second wave of the Covid-19.
Well, nobody can predict the further. The first possibility is that the market may go into deep correction when the US experiences the second wave of the Covid-19. Second, scientists have found a vaccine that will lift the market to its lifetime high.
When you are timing the market, the chances are higher that you will miss an opportunity to buy stocks that are available at an attractive valuation. Instead of timing the market, make an effort to buy now the fundamentally sound companies that will deliver the best returns in the long run.
Prepare a strategy when to sell a stock
Don’t sell a stock simply because the company has missed revenue projections for a year. No matter how big the corporation is, every business witnesses a deep in earnings during a specific business cycle. Run through a detailed analysis of why the earnings have deteriorated. If you find that the company faces immense competition from the peer companies, and that is why it is experiencing a deep in its earnings. In this situation, you should sell the stock and book the profit.
- Read also: How to Build a Stock Portfolio With Little Money
- Read also: 7 Best Stocks to Buy Right Now Under $20
Hope this article will help you to figure out what is the best time to invest in stocks. If you have found this article helpful feel free to share it with your colleagues, relatives, and friends.