Buying individual shares of a company is a great way to build wealth. I am an avid investor who has concentrated most of my net worth in stock holdings. While I encourage friends and family members to invest in individual stocks; I do however understand that buying stock is not for everyone. Some people are better served by buying an index fund. Here are 5 factors to consider before buying a share of stock.
You Should Only Buy Stock If:
You are a risk taker.
You must be prepared to deal with the wild price swings that an individual stock takes. Stocks do not move straight up. The best growth stocks often have volatile swings that will take you on a bumpy ride. You have to be willing to endure the bear markets and market lows to reap huge profits. Individual stocks skyrocket and crash more often than exchange traded funds and mutual funds. Most retirement plans from companies invest in mutual funds because individual stocks are so topsy turvy. While it is easier to get rich by investing heavily in individual stocks; you also have to endure far greater risk than investing in diversified funds. You have to be willing to ride or die with that one company.
You understand you cannot time the market.
You can save yourself some agony by avoiding market timing. Market timing is when you try to hop in a stock when it’s low and sell it when it goes higher. It sounds easy but it is incredibly hard to do. I do not care how long someone has been investing or what inside knowledge they claim to have no one knows what the stock market will do day to day. No one can predict the market. You will miss out on major stock moves trying to time the market. You have to stay in the market even during rough conditions. You never know when a bear market will turn into a bull market turning a losing investment into a profitable one.
You believe in the company.
I have seen too many people lose their money buying stocks that they do not believe in. People buy stocks looking to make some quick money in a few days. Most of these people wind up losing money because they purchased losing investments. Buying penny stocks and garbage companies is a surefire way to lose money. Following the investment advice of daily traders and “gurus” doesn’t work. Don’t buy stock in a company unless you believe in the company. You need to believe in the corporate management, the products, and the potential of the company before buying shares. If you do not believe in the company’s products then why would anyone else? Investor confidence is vitally important to staying the course during turbulent times. This way if the price dips a little, you will not panic and sell your shares but will accumulate more. It is easier to stay in an investment when you believe in the fundamentals of the company versus just trying to score a quick buck.
You have a Long-Term Horizon.
Never buy stock in a company that you would not like to own for at least 5 years. I never buy a stock as an investment if I cannot see myself holding the shares for at least 5 years. This doesn’t mean I keep every single stock for five years but it does mean I am prepared to do so. I do not get in and out of positions day after day. Unless you are hedge fund, or billionaire investor trading positions day in and day out will never lead to big gains. My biggest gains have come from holding companies like Nike, Costco, and Hershey for over a decade.
You understand how the market works.
You understand that a stock is likely to go down as soon as you buy it. This doesn’t always happen but you need to be prepared for it. I do not care what I stock I purchase. It always feels as soon as I buy a stock that the price goes down instantly. It may only be a few dollars but it’s psychologically discouraging. It makes you feel like you have bought a losing stock. You may even feel like you are jinxed or unlucky. You are not. It’s simply because you placed a market order, and you cannot control the entry price. You are buying shares at the market price with an unknown amount of demand. Just stay the course and shares will most likely go higher over time.
You can control your emotions.
Never invest from an emotional space. Feelings have no place in finance. Don’t chase stocks based on greed and don’t sell stocks based on fear. Bad decisions are always made when they are made from an emotional headspace. Greed makes you feel like you are missing out on gains when the market is rising and makes you accumulate shares really fast at sky high prices. You end up losing money trying to become an instant millionaire. Fear makes you feel like you are going to lose everything and causes you to sell out of your positions at dirt cheap prices. You sell low and buy high costing you hundreds of thousands of dollars in profits over time. The best thing to do is stay level headed. If you are a very emotional person, do not pay too much attention to the market during market booms or crashes. Remain disciplined, invest according to your original plan, and stay the course.
