When you make a major purchase, you want to be sure that what you’re buying is worth the price. The same is true for stocks—especially for investors that are taking a long view.
- What do you know about the company or industry?
- Is it an older, established company or a start-up?
- Is the company profitable, or does it seem to be in trouble?
- Does the company pay dividends or reinvest its profits?
- Does the stock have a high growth rate?
- If the price is low, do you know why? Is it because investors and/or advisors expect poor earnings in the future?
- Is the stock trading at a discount, and if so, why?
Now that you’ve answered these questions, it’s time to get a little more specific.
Consider total returns
- year to date (YTD)
- 52 weeks
- average annual return
- 5-year average annual return
Compare the stock’s performance to the overall market
If a stock has generated a 10% return, is it a good investment? That depends. Compare its return to the rest of the market with market indexes (Dow Jones Industrial Average, S&P 500). If this stock’s returns are on average less than the returns of the major market indexes, you may want to evaluate the risk of betting on one stock rather than a market-tracker.
Compare it to the competition
You’ll want to know if the stock is doing as well, better or not as well as others in the same industry. Even if a stock is outperforming the market, it could be underperforming compared to competitors, and that could be a red flag.
Tip: Make sure you’re comparing the stock to similar competitors. For example, don’t compare a small company to a large one with a much longer history.
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