HOW TO START INVESTING IN STOCK MARKETS?

How to start investing in Stock Markets?

Remember that not all stocks are good for investing. Some are overvalued or some may have weak fundamentals or any other issue. So, as a beginner, it is important for you to learn how to evaluate the stocks and pick the right ones for yourself.

You must know how to identify the shares that can help you earn some profits either in terms of dividend or capital appreciation through stock analysis. It is not rocket science, a little bit of knowledge and practice will make things easier for you.

Firstly, you need to learn how to read the financial statements of a company.  It represents the financial position of the company. The objective is to invest in only fundamentally or financially strong companies. Ideally, the investors will be more interested in investing in the companies with higher profits since it means that the company will pay higher dividends. But, some of the companies instead of sharing profits as dividends might retain it for expansion and growth, But, this eventually helps the company to earn even higher profits in coming years.

Also, higher retained earnings will reduce  the dependence of the company on the outside debt which reduces the interest expenses and increases profitability.

A higher profitability increases the market prices of the share. You  should look at the Earning Per Share (EPS) for the company for past few years to understand the improvement in the market prices of the share.

Also, try avoiding the shares that are overvalued even if the company have strong fundamentals. The best way to check the reasonability of the market price of a stock is to use the Price Earning Ration (P.E. Ration) that is obtained by dividing market price with EPS. There is no standard rule to identify if a company is expensive or not.

However , you can set your own rule. For example, if the P.E. ration is more than 30, then the stock is over valued and hence, should be avoided.

These are just two indicators. There are many other tools such a dividend yield, current ration, long term debt rations etc, that can help you in taking an informed decision.

You should keep yourself updated with the current market news and look out for internal and external indicators that can affect the stock prices. These include changes in government policies, political changes , company's management changes etc.

Here are the various financial ratios that shall help you in taking an informed and well-researched decision while investing in the stock market-

- Earnings Per Share (EPS)

It is the most basic and important financial ration that you need to know before making an investment in shares. It basically indicates the profits that the company made in the last year divided by the no. of shares issued in the market.

EPS= Net Profits/ Equity shares issued in the market

So, while deciding whether to invest in a stock or not, a higher EPS is considered good. It shows the company has a capability to generate higher profits.

You should check the EPS of the last five years. So, if the EPS has been growing over the past few years. then it is good sign, and vice-versa.

- Price to Earning Ration (P/E)

It is yet another important the financial ration while analysing a stock before investment. It helps in ensuring that the stock is not overvalued. A high P/E ration shows that the stock is overvalued.

P/E= Price per share/ EPS

You can use the closing price of the previous day and calculate the EPS by the above-mentioned formula to arrive at the P/E ratio for a stock. Usually, a P/E ratio lesser than 15 is considered good. Also, the definition of higher or lower P/E ratio differs from industry to industry.

-Price to Book Price 

This is calculated by dividing the current market price of the shrea by the book value of the share from the last quarter. It helps in determining how much the investor needs to pay for the net assets of the company. The lower P/B ration indicates that the stock is undervalued, but again like the P/E ration this definition varies from one industry to another.

P/B= Price Per Share / Book Value Per Share 

- Debt to Equity Ratio

This helps in measuring the relationship between the borrowed capital (debt) and the shareholder's capital (equity) in a company. Usually; a debt equity ratio lesser than 1 is considered favorable since it indicates that the company has stronger equity position and relies lesser on the outside debt.

Debt to Equity Ratio= Total Liabilities/ Shareholder's Equity

-Current Ratio

Current ration is the critical financial ration to measure the liquidity of the company. It helps in determining how much of current assets the company owns to cover the current liabilities. A current ratio greater than 1 is generally considered good since the company has more current assets than current liabilities.

Current Ratio= Current Assets/Current Liabilities 

- Price to Sales Ratio (P/S)

The price to sales ration helps in measuring the prices of a company"s share with respect to the annual sales, It is very similar to the P/E ratio. It is more reliable than other financial rations since the sales figure cannot be easily manipulated in comparison to the profits, earnings or income figures by using various accounting rules.

Price to Sales Ratio= Price per Share/ Annual sales per Share

-Return on Equity

This financial ration calculates the amount of net income that is generated for the equity shareholders. The return on equity ration helps in measuring the ability of the company to generate profits using the shareholder's money. It basically determines how good is a company at rewarding the equity shareholders. Usually, the ROE that is more than 20% for the past three years is considered good.

Return on Equity= Net Income/Average Shareholder Equity

-Dividend Yield

This financial ratio helps in calculating the dividend that a share can yield in caparison to the current market price of the share. It is calculated on a percentage basis.

Dividend Yield= Dividend Per Share/ Price Per Share

Usually, a higher dividend yield is considered good. But, it totally depends upon the individual choice if you want to invest in a higher or a lower dividend yielding company.