Investing in stocks can be potentially lucrative. But there are many pitfalls too. Let’s take a look at what I’d think about if I were starting an investment today.
First, I’d think about my objectives. What is my time frame? Do I want to invest for 30 years, 10 years, or one year? It’s an important question and would guide how I’d go about investing in stocks.
In my opinion, investing should be thought of as a long-term activity. The track record for stocks over the long run is decent. Looking back at the past 50 years, the average annual stock market return is around 10%. That said, it can be more volatile over shorter periods.
In addition, a longer time frame allows money to compound further. Compounding is my favourite mathematical marvel. Einstein was even reputed to have called it the “eighth wonder of the world”.
Next I’d think about how much risk I’m willing to accept. There are stocks that swing wildly and can be quite volatile. Then there are others that barely move, but pay stable dividends.
Investing in stocks
Let’s say I have £5,000 to start investing in stocks. Where would I invest? I’m going to assume I’ve got a time frame of over five years, and I’d like a variety of stocks.
One option that I’d consider is to pick a good quality fund. Once picked, this would be a hands-off investment as the fund manager than manages the fund would be doing all the work.
There are thousands of available funds with differing strategies. Some funds focus on companies of a particular size, and some concentrate on a particular sector. I’m a big fan of the technology sector. I reckon the fastest-growing companies over the coming years will likely be found in this space. One fund that I would be happy with is Polar Capital Technology Trust.
I’d have to be careful, though — investing in just one sector can be risky if something goes wrong that affects the whole sector.
A more hand-on approach
An alternative option is to research and pick three or four listed companies that I think could do well over the coming years. There are several ways that I could do this. First, I’d look for companies that I know and use regularly. It’s nice to have an opinion on a company as a customer. As popular investor, Peter Lynch, once said, “Invest in what you know”.
I’d want to make sure a potential investment target company is growing its earnings, and is able to keep ahead of the competition. I like a company that can sustain a large profit margin by selling something unique or better than its peers. I’d also like to see a strong balance sheet. In particular, I’m not a fan of companies with too much debt.
With thousands of available stocks, there are many that will tick these boxes. Right now, I’d take a further look at Games Workshop, Rightmove, and Auto Trader. Not only do all three fulfil my criteria, but their share prices have fallen slightly in recent weeks.
Investing in stocks can be potentially risky. Many factors can affect a company’s prospects, from new competitors to increased costs, or falling demand to name just a few. I’d need to stay on top of it.
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Harshil Patel owns shares of Games Workshop and Polar Cap Technology Trust. The Motley Fool UK owns shares of and has recommended Games Workshop. The Motley Fool UK has recommended Auto Trader and Rightmove. Views expressed on the companies mentioned in this article are those of the writer and therefore may differ from the official recommendations we make in our subscription services such as Share Advisor, Hidden Winners and Pro. Here at The Motley Fool we believe that considering a diverse range of insights makes us better investors.