The stock market is going up and the real estate market has largely recovered from the crash a decade ago. If you have not already started investing again you are probably thinking about it. If you are new to the game you are wondering how to choose profitable investments.
How to Choose Profitable Investments 1: First steps
Years ago we wrote about how to invest $10,000. Here are some basics about how to choose profitable investments and get on the road to profits.
In deciding how to invest 10,000 dollars let’s look at investment horizon, risk tolerance, growth versus income, and diversification as the first considerations on the way to deciding what is a good investment for our first stock.
How we envision our investments will help us focus on the stocks that fit our needs. If we are looking to save money for retirement we may choose different investments than if we are saving for a down payment for a house and hope to have built up a substantial amount of capital in, lets’ say, five years.
Our risk tolerance should be built upon our ability to absorb the loss of our investments in their entirety. Someone close to retirement may want to look at dividend stocks more closely than growth stocks and a younger investor will certainly want to cash in on the exponential growth of a strong growing company.
Diversification is always important as it lets us benefit from growth in different market sectors and commonly cushions losses in one stock/sector with gains in another.
In this article we will focus on investing for the long term, building wealth over the years, and having a healthy nest egg for a rainy day. In this case how to choose profitable investments depends on intrinsic value analysis.
How to Choose Profitable Investments 2: Intrinsic value and value investing
We may seem to have written a lot about intrinsic stock value but it is a subject that bears repeating. When you look for a profitable investment you do not necessarily look for a stock that has just gone up in price. What you want is an investment that will appreciate in the future. But, how can you know that? There are lots and lots of mathematical formulas which you can apply to the calculation of intrinsic stock value.
For example, you can look at expected dividends and pick a stock which has paid dividends for decades and invest with the expectation of continued dividends.
Or, you can look at the margin of safety of a stock which is cash in the bank, assets unencumbered by debt, and the strength of its products and services within its market niche.
This last approach is basic to how to choose profitable investments.
How to Choose Profitable Investments 3: Tech products versus a Snickers bar
Which companies will be profitable investments in the future depends on their ability to make money year in and year out. There are two ways this happens. First, the company has a product, like Clorox bleach, Coca Cola or a Snickers bar. These are established products that have strong brand names and are very unlikely to be replaced by competitors. The second way is that the company is able to continue to invent new and better products and services.
We like to refer to Warren Buffett on these pages because he is the epitome of the successful long term investor. He once said that he avoided tech stocks because he did not have a clear idea of how many of their products would be viable in five years and therefore how much they would be worth. On the other hand he noted that he was pretty sure how much folks would pay for a Snickers bar five years in the future.
For the beginner, how to choose profitable investments is to stick with what you know or educate yourself to know more. Having a basic idea of how the company makes its money and how it will continue to do so is the first, best and eternal approach to profitable investing.