June 5, 2017    4 minute read

A Brief Guide To Investing: Understanding The Business Is Everything

The Basics    June 5, 2017    4 minute read

A Brief Guide To Investing: Understanding The Business Is Everything

Investing is difficult, yet relatively simple.

It is human nature to want to understand the markets. After all, they are often the first derivative of the global economy, jobs and future wages. It is true investing can be a good source of wealth, done properly of course, but over the long, not short, term.

What has become quite apparent when starting out, is that there a multitude of methods teachers preach in order to make an investment decision. University often teaches the idea that discounted cash flow makes sense to obtain the assets ‘true value’.

Others will dismiss this and focus on the patterns from the stock price chart. Then there may be an online video which professes valuation metrics like the price-earnings multiple and the price to book ratio. To cut a long story short, they all have their merits, but that does not help someone who wants to understand where to start.

Early Questions

The first thing to do is understanding objectives. If one ignores the wealth management cliché for a minute, what does this mean? It means how much risk can one afford to take? If a person has £1,000 to invest, yet if someone asked, “would you prepared to lose that £1,000?” and they said no, then investing at that moment would not be a clever thing to do because emotions would take over; when that conflict exists, only bad things can happen.

Technical analysis does indeed have good points, as does fundamental analysis. But those two broad headings each have their own details embedded. An excellent starting point would be to look at the soft (often sentiment figures from surveys) and hard data (actual data points/ reports which confirm or deny the soft surveys).

Almost all of the important information is out on the internet for free; it is just a question of where to look and how to interpret it. The labour and manufacturing reports are released weekly/monthly and can often be accessed from government websites. Those themselves are excellent sources for giving a big picture on the health of economies – and there is not even a stock price chart in sight.

Having a good understanding of what is going on from a bird’s eye view allows one to think about individual stocks. That’s where the fundamentals or drivers are important. Metrics like price-to-book for looking at a company’s hard asset value or price to earnings, in other words ‘hype’, can then be applied.

The Bigger Picture

With so many apparent methods out there, it is important to understand the bigger landscape. Each method can be applied to the investment process but it’s just a question of where to insert it into the overall framework.

One thing to bear in mind is not to get excited by the brokers’ platform. The brokers want customers to trade all the time, which is why they have colourful writing, countdowns to ‘big events’ and flashing lights. As a beginner, trading all the time isn’t a good idea.

What is a good idea is to get a view on where the world is heading and buy some basic asset like an S&P 500 ETF, which simply tracks the index. The most important thing in investing is to understand why one is in the position in the first place. If that is known, then if things change for the worse or they keep getting better, it will be easier to know what to do; that adds more or cut the position.

There is no point whatsoever to buy a bank stock if the balance sheet looks alien relative to one’s background knowledge. If a crisis came about, there would be some good signs on the books that either investment banking revenues are falling or advisory fees are down.

Understanding is relative to each individual and is by far the biggest lesson anyone should adopt.

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