Stocks are vital for superior growth
 Equities
are growth investments, and can include things like real estate,
art, antiques and gold. However the most popular equity investments
that people rely on for growth are stocks. But stocks can
also serve purposes other than growth.
In addition to potential capital gains, stocks also have
the potential to pay dividends. With GICs and bonds, you are
a lender and your reward is interest. With an equity you are
an owner, and if your company makes money, your reward is
a dividend.
Because of the preferential tax treatment for some Canadian
source dividends, dividends can play an important role in
your portfolio. But as important as dividends may be, it is
the potential for growth and capital gains that make stocks
a vital part of your portfolio.
What the experts say about stocks
Financial experts have many opinions on many things, but
there is one fact on which they will all agree – you
need to have stocks in your portfolio to provide the growth
you need to stay ahead of inflation and have a secure future
over the long-term.
They also agree on the best way to invest in stocks –
with a long-term view in mind. Yes, there are “day traders”
and “swing traders” and many other “traders”
whose success depends on timing the market. How do they do?
For the most part, the ones who benefit most from “trading”
are the brokers who earn commissions on each trade.
Trading stocks successfully over short run periods is difficult
to say the least and there are far more losers than winners.
Equities go up and equities go down. That is predictable.
To know when they will go up or down is not.
But history has taught us one valuable lesson.
Over the long run, equities do go up and have proven to be
the most profitable investment by far. But the key phrase
here, the vital strategy for success is “over the long
run”.
You saw an earlier example of the disastrous results of missing
the “best” days in the market. Here’s another
statistic that shows how important is to stay invested rather
than be a trader:
From 1975 to 2000 the average annual rate of return on the
Dow Jones Industrial Average was 12.3% per year. However,
if you missed the best 35 days during this period, the return
drops to 6.92%. Imagine. All you have to do is miss 35 days
out of 25 years and you miss almost half of the gains.
When you hold stocks for the long run you get all of those
key days. If you’re a short-term trader, unless you
have a crystal ball working for you, you’re going to
miss most of those key days. The simple secret to success
is to stay invested.
What kind of stocks should you stay invested in?
 That
depends on your needs, your goals, your resources, your time
horizon and your tolerance for risk. But whatever kind of
stocks you want to invest in, you can find them.
If your goal is to preserve your capital and receive an income,
there are ultra-safe blue-chip preferred stocks that have
paid dividends regularly for years. (Always keep in mind that
even though a stock may be ultra-safe, it is still a stock
and its value is subject to performance and market forces.)
If your goal is to get rich quick, there are endless speculative
opportunities to double and triple your money overnight. But
if that’s your goal, you’ll have about the same
chance of success at the racetrack or gaming table, where
you’ll probably have more fun.
And of course, in between the blue chips and the speculatives,
there are thousands and thousands of stocks, covering the
full range of risk and return.
With thousands of stocks to invest in, there are two basic
investment styles – value oriented and growth oriented.
Some investors strictly look for value stocks, others strictly
for growth stocks. But most experienced investors practice
both styles to some extent.
In today’s market, value stocks are more in favour
A value stock is one whose price is lower than what its potential
indicates it should be. The value investor looks at the relationship
between the current price of a stock and its intrinsic value.
To determine a stock's intrinsic value, you evaluate things
like current earnings, long-term earning potential, price-to-book
ratio, and dividend paying ability. If this evaluation is
higher than its current price, the stock could be a good long-term
investment opportunity. A common guideline is to compare a
company’s P/E or Price/Earnings ratio to other companies
in the same sector.
These value distortions or mispriced stocks can happen for
a variety of reasons, but emotional reactions of investors
is probably one of the most important. Here’s how it
happens.
Suppose that a certain company has excellent long-term prospects.
But some negative event occurs that poses a short-term difficulty
for this company. Many investors, letting their emotions get
the best of them, will overreact to the short-term problem
and sell their shares. Share prices fall and create the kind
of opportunity a value investor with a long-term horizon looks
for.
A note of caution. Investing in stocks just because they
are cheap is not value investing. Some share values are low
because they deserve to be. The trick of course is knowing
when the fall in price is called for or when it is an overreaction.
Which is why successful value oriented investors are not
only research oriented but have the discipline to ride out
stormy periods.
Growth stocks have more potential but . . .
 Growth
stocks, as the name implies, are stocks whose earnings are
either on the rise or are expected to rise. During the late
90’s, just about everyone was a growth investor. Every
dip in prices was a buying opportunity. And then the great
bull market began to falter. And investors who were buying
on dips saw their investments keep going down and down. And
you know the rest of that story.
As a result of that dramatic drop, many investors have shunned
growth stocks. But this is like throwing the baby out with
the bath water. There are still many growth opportunities
that deserve examination.
The key for most investors is balance. Value and growth investments
are both effective strategies through most stages of the economic
cycle, and both should be represented in your portfolio. The
extent that each should play is up to you.
Also keep in mind that mutual funds are an excellent way
for an investor to participate in the high growth potential
of equities with less risk and much less capital, time and
effort.
How do you decide when a stock is attractive to purchase?
There are two general ways of determining a stock's potential
as an investment. You can look at the “fundamentals”
or you can look at “technical analysis” and of
course you can look at both.
Fundamental analysis looks at factors such as earnings, cash
flow, debt, strength in its industry, outlook for the industry,
general economic factors, interest rates, and so on. If these
factors are good, then even if there are short-term setbacks,
over the long-run, the stock should do well.
Technical analysis looks at factors like volume of trading,
cyclical behaviour, trends, moving averages and many others.
Some investors use both approaches. They use fundamentals
to determine the long-term potential of a company and technical
analysis to decide when to buy. For example, you may believe
that a certain company has great potential over the long-term
and will be worth much more in years to come.
However, it could be that the current market for this company’s
product is temporarily weak and that as a result, the stock
price could fall. Technical analysis could be helpful in determining
how far the price might fall and could provide help in indicating
a good time to buy.
If you’d like to speak to someone personally, click
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to you.
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