Education is key to trading stocks. The decision to start trading and investing in stocks depends on your personal situation—including whether you have investable assets.
P/E ratios and technical indicators are among the tools market beginners can use to inform decisions
Everyone has to start somewhere. That old maxim certainly applies to investing or trading in stocks. Do you consider yourself a stock market newbie, newcomer, or neophyte? Here’s one way to think about stocks for beginners: don’t think of yourself as a beginner at all.
That’s because when learning how to trade stocks, you may be your own best research director, money manager, and market expert. Is “now” the time to start trading stocks? Regardless of what the market is doing, it’s always a good time to educate yourself about how the stock market works and where potential investing or trading opportunities may exist.
But first, “hit the books and study up,” said James Boyd, education coach at TD Ameritrade. Boyd walked us through a few pointers for anyone wondering how to get into stocks.
Think about the companies that provide the products and services you, your family, and your friends use frequently or daily. How did you get to work, where have you dined out recently, and what sort of entertainment did you watch or listen to over the weekend? Asking basic questions is a good way to start constructing your investing or trading thesis.
Companies and brands that are visible or ubiquitous at ground level are there for a reason: they’re probably well known to the stock market as well.
According to Boyd, by purchasing shares in such companies, “you have the potential to make money off them and share some of the profits and other benefits, such as dividends.” Of course there’s no way to know if company profits will continue in the future and companies can stop paying dividends at any time.
After you sketch out some companies that may present opportunities, a good next step is to set up your personal “control panel” of stocks. Open the thinkorswim® platform from TD Ameritrade and plug company names into the Watchlist and Live News gadgets on the left.
Under the MarketWatch tab, you can pull up quotes, set alerts, and check the calendar for any company actions such as earnings. And under the Analyze tab, there’s a whole host of fundamentals to help you narrow your search.
Buying shares of a stock confers partial ownership of a corporation and, potentially, a slice of the company’s earnings. That’s one reason why it’s important for market beginners to wrap their heads around fundamental metrics such as revenue and basic earnings per share (EPS), which is a rough measurement of the amount of a company’s profit that can be allocated to one share of its stock. Publicly traded companies typically report earnings and other financial information every quarter (including EPS), so for any stock you’re considering, it’s a good idea to check the company’s recent earnings history and compare that to analyst expectations. Does the company have a track record of beating or falling short of EPS forecasts? Also, check the calendar to see when the company next reports quarterly results.
Earnings conference calls, which are usually held shortly after a company reports quarterly results, offer another valuable source of fly-on-the-wall insight and perspective, Boyd said.
“By listening to earnings calls, you can gain insight into what the CEO is thinking and what questions analysts and investors are asking the company’s leadership,” Boyd said. “Listen to the calls, and you really start thinking like an investor, as opposed to just buying a stock.”
Many market professionals use chart patterns, trading volume statistics, and other technical indicators to help them make buying and selling decisions. These professionals may be studying “momentum” readings—how quickly or slowly a price is moving up or down—or trying to spot early developing price trends, or trends that may be about to reverse. “The trend is your friend,” as one old market saying goes.
Stock market beginners can apply similar practices to see what direction a stock has been moving and where it might be going. One handy tool to help identify trends combines the 30-day simple moving average (a stock’s average closing price over the past 30 days) with the 10-day exponential moving average (which assigns greater weighting to more recent data).
“If you found a stock above both its 30-day simple moving average and its 10-day exponential moving average, technical traders would consider this a very strong trend,” Boyd explained.
Sound investing or trading strategy boils down to math, according to Boyd. That means quantifying and weighing how much risk you’re taking against potential rewards, understanding what’s “expensive” versus “cheap,” and other numbers-based assessments.
Math applied to investing or trading “is akin to doing due diligence on buying a home or other real estate transaction,” Boyd said. “If you don’t do the math, you’re not really investing.”
Ready to crunch the numbers? One place to start is with the price-to-earnings ratio (P/E ratio), a widely followed benchmark for gauging whether a stock is overvalued, undervalued, or about where it should be. P/E ratios, also known as P/E multiples, measure how much investors are willing to pay per dollar of a company’s profits. A stock’s P/E ratio can be compared against other industry peers, as well as to broad market benchmarks such as the S&P 500 Index.
Markets are fundamentally run by humans, which means anxiety, fear, exuberance, and other emotions come into play. Markets also go up, down, and sideways, sometimes for no apparent reason, so beginning investors and traders would be wise to accept what they can and can’t control and try to avoid making potentially irrational, emotion-driven decisions (among other common trading mistakes).
It’s also a good idea to carefully plot your short-, medium-, and long-term goals and time horizons; recognize the difference between “investing” and “trading”; and define the type of investor or trader you are, or develop a profile that best suits your goals and comfort with risk.
One way to look at it: “trading” could be likened to dating, Boyd noted. You might take a shorter time frame—say, three to six months—as you audition various candidates for your portfolio. Investing, by contrast, “could be viewed more like a marriage,” Boyd said, involving long-term decisions—six months or longer—“based on criteria that matter deeply to you. You’re seeking a long-term trend or partner.”
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